Commercial lending and community banking

Commercial lending and community banking

Postings as of February, 2006.

ABCs of lending to day care centers
Bolstered by extremely attractive demographic trends, day care centers are growing in number and increasingly approaching lenders. Before entering this potentially lucrative market, lenders need to understand the unique challenges day care centers face. As this article explains, extensive due diligence — including site visits — is required to avoid lending to centers that engage in negligent or even criminal practices

Agreed upon procedures
When year end financials aren’t enough Agreed upon procedures (AUPs) are similar to audits, yet offer greater flexibility and specificity. Lenders concerned about disturbing trends in a customer’s financials can employ CPAs to perform a small-scale AUP to get answers fast.

Beyond the Numbers
Inventory irregularities deserve special scrutiny Inventory-based fraud schemes can be very damaging to a company’s bottom line. Unfortunately, they’re all too common. This article helps lenders understand why inventory is such a vulnerable segment of any business and explains how they can spot inventory irregularities.

Why bankrupt companies may be worth the risk
While lenders have traditionally avoided dealing with bankrupt businesses, they usually make an exception with debtor in possession (DIP) financing — defensive loans designed to protect lenders’ interest in existing customers. Increasingly, however, lenders are viewing DIP financing as a profitable venture. As this article shows, qualities such as high rates and short terms make DIP financing an attractive risk

Is it possible to predict inflation?
Compared with the sky-high inflation rates of the 1970s and 1980s, inflation today — despite inflationary pressures — remains relatively modest. This article provides several explanations for this puzzle, including flaws in inflation measurements and fundamental changes in the U.S. economy.

Identifying and preventing equity drains
When owners and managers divert their company’s cash for personal use, it can quickly drain equity and seriously damage their ability to service debt. Lenders need to be on the lookout for common equity drains, particularly in family businesses, C corporations and S corporations.

Will your customers be caught in the dark?
Business continuity plans mitigate disaster damage Most companies aren’t adequately prepared for major disasters. Yet natural and man-made disasters could seriously disrupt business operations and lead to lost profits, negative media attention, unrecoverable data and even loan defaults. Lenders, therefore, should ensure that their customers have detailed continuity plans that identify exposures, estimate costs and determine how long it would take to recover from a disaster.

Beyond the Numbers
Don’t be deceived by your borrowers’ accounts receivable While a borrower’s balance sheet says a lot about a company, it only tells part of the story. When a company actually collects on outstanding invoices, it may receive a lot less than is shown on its balance sheet. This article provides suggestions for additional due diligence on accounts receivable, including asking for confirmation letters and investigating concentration risks.

Pump up your portfolio with health clubs
Demographic trends make the health club industry a potentially lucrative one for lenders. But before accepting a health club as a customer, lenders should understand the industry’s challenges, such as heavy competition, the need for niche marketing and inexperienced management.

The dangers of depending on EBITDA
While a popular metric, it may mislead lenders EBITDA — earnings before interest, taxes, depreciation and amortization — is commonly used by lenders to assess a customer’s financial health. But many experts warn that EBITDA overstates a company’s true performance and ability to service debt. This article explains why lenders may want to use EBITDA only sparingly.

Speedy service is online banking’s top sales pitch
Once widely perceived as unsafe, online banking services are experiencing a surge in growth today. Learn how some banks are using online services to increase customer satisfaction and get the facts on how to help your customers avoid online fraud.

Securing loan presents obstacles for Spanish speakers
Securing a loan can be an obstacle course for even top-notch English speakers. But for Spanish speakers in the United States, dangers in the process are even harder to identify. A new Spanish-language brochure, published by the federal government, educates borrowers on lending scams.

Latest HMDA amendments redefine financing
New amendments to the Federal Reserve Board’s Regulation C have taken effect and one of the most significant changes is the new definition for refinancing. This article includes scenarios that illustrate the new definition as it applies to reporting requirements

Check 21: Are you ready?
Now that the Check Clearing for the Twenty-First Century Act (Check 21) has been signed into law, the next big question is, “How are you preparing for it?” Check 21 will move today’s paper-reliant check collection system closer to a fully electronic operation. A new digitized negotiable instrument will be legally equal to a paper check

BOLI poses special issues for S corporation banks
More than one third of all U.S. banks use bank-owned life insurance (BOLI) to offset the cost of employee benefit programs. BOLI can be attractive to S corporation banks because it appears as an asset on the balance sheet, while its revenue is recorded as other income. But as more banks have elected S corporation status, BOLI has prompted several tax and accounting questions.

Tips for boosting front-line staff sales
Banking organizations have traditionally underemphasized staff selling skills. But in today’s competitive environment, instilling a true sales culture can give your bank the edge. To do so, you need to help your front-line staff think like sales people. You’ll need to focus on two things: product knowledge and listening skills.

ATMs: The cash cows that keep on giving
Automated teller machines, or simply ATMs, have evolved into cash cows, not only for customers who rely on ready access to their money but also for banks that find them a steady source of fee-based income. But today, community banks face critical ATM challenges in meeting requirements of customers, regulatory agencies and pivotal industry players.

Slice and dice free data for valuable insights
A valuable tool to assess your bank’s financial health and competitive position is available free on the Internet. Uniform Bank Performance Reports, created to help bank supervisors and examiners exercise their responsibilities, can also help banks perform numerous internal functions.

New law, new protections for armed service members
If customers or employees serving in the armed services run into financial problems during their military service, they are entitled to special protection under a law signed in December 2003. The new Servicemembers Civil Relief Act (SCRA) clarifies and updates provisions of the Soldiers’ and Sailors’ Civil Relief Act of 1940 and adds several new protections.

Why a customer’s supplier relationships should matter to you
The quality of supplier interactions can make or break a company because these relationships can dictate the prices, terms and delivery schedules for a company’s inputs. The power of suppliers is especially significant in industries in which a few suppliers serve numerous competitors. Examples include suppliers of dashboard controls to the automobile manufacturing industry or suppliers of commercial airplane equipment to the airline industry. Managers sometimes lose sight, however, of the importance of supplier relationships and, instead, treat suppliers poorly enough to jeopardize the relationship. This article discusses how such a mindset can quickly throw one of your customers into financial turmoil — and how a workout plan may be the answer.

Carving a niche in health care receivables
The health care industry is complex and currently contentious. Patients want greater flexibility and lower costs. Pharmaceutical giants, malpractice providers and other vendors are charging higher prices. With the numerous pressures health care companies face, it’s no surprise that many traditional lenders turn their backs on health care loans. Before writing off this entire market segment, consider this: Health care is currently a $1.5 trillion industry. This article discusses how lenders who indiscriminately avoid this market segment — without first considering its potential upside — may be leaving money on the table.

How to spot unscrupulous customers
These days, the term “earnings management” has almost become a euphemism for fraud. Although some types of management of earnings are in compliance with generally accepted accounting principles, where is the line between what is tolerable and what is sleight of hand? The Securities and Exchange Commission has caught many public companies with their hands in the cookie jar. But earnings management fraud isn’t restricted to public markets. Increasingly, private company managers are also contorting the rules — or even out-and-out breaking them — and deceiving their lenders in the process. This article discusses types of scams and measures that can be taken to protect against them.

Examining the merits of staffing-industry loans
When the economy sours, many lenders steer clear of cyclical industries. With staffing-service firms, this avoidance proved prudent because the demand for temporary and contract workers shrank 28% (or 739,000 jobs) from the fourth quarter of 2000 through the first quarter of 2002. This article discusses how lenders can differentiate between likely winners and potential losers.

Is the machine-shop industry breaking out of its slump?
The machine-shop industry has strikes against it, albeit familiar ones such as intense competition, growing customer expectations, fluctuating raw material costs and high capital investments. Hampered by the constrained economy, many machine shops filed for bankruptcy. Presumably, only the fittest survived. If so, machine-shop customers may offer you healthy upside potential. This article discusses three possible trouble spots.

Interim financial statements can shine light on performance
For good reasons, many lenders sneer at interim financial statements. After all, when preparing these midyear reports, some controllers might liberally interpret period “cutoffs” or perhaps use subjective estimates for certain account balances and expenses. In addition, interim financial statements typically exclude costly year end expenses, such as profit sharing and shareholder bonuses. Interim financial statements, therefore, generally paint a rosier picture of a customer’s performance than its year end report potentially may. This article discusses the ups and downs of interim financial statements.

What your customer’s balance sheet isn’t telling you
Not every balance sheet portrays an accurate picture of a company’s financial condition. Some assets and liabilities suddenly disappear from — or never even make it to — a company’s balance sheet. This article tells a cautionary tale of a lease that didn’t really exist and the accountants who caught it.

The ups and downs of high-growth borrowers
Perhaps high-growth customers incite ambivalence in you, because high growth screams “high risk” — certainly risk too high for an economy this unsteady. Then again, some high-growth ventures turn out to be cash cows. Admittedly, for every Disney or IBM, thousands of high-risk ventures aren’t worth the paper they were proposed on. With careful screening and close monitoring of high-growth prospects, lenders can better assess whether a customer’s venture is worth their capital.

Professionally valuing your customers can benefit you
Over the past decade, business valuation reports have emerged as a supplemental means for customers to bridge a financial information gap. For example, a customer on the brink of bankruptcy might provide a valuation “proving” that a proposed reorganization plan is preferable to liquidation. This article explains basic elements a lender should focus on when reviewing business valuation reports.

Tips for smart lending against intellectual property
It’s difficult enough to determine a company’s loan-worthiness with tangible assets; the growth in intangible assets makes this task even more complex. While lending against intellectual assets is a relatively new phenomenon, it’s likely to grow and become even more critical in lending decisions. This article discusses what intangible assets do for a company and what happens if the prospective client is embroiled in intellectual property litigation

State sales taxes can be stealthy
What is the front line in the battle for success? Most business owners would say entering new markets, fighting for customer mindshare, dueling over costs, retaining key employees and fending off competitive challenges. This article discusses the often dangerously overlooked, but consequentially big and dense, area of state sales taxes.

Stress testing can reduce senior credit officers’ anxiety levels
What would happen to a lender if economic conditions soured or other external factors suddenly changed? Would the bank have adequate reserves and capital to weather future downturns? Furthermore, is the bank’s loan portfolio too heavily concentrated in one industry, sector or geographic region? Senior credit officers who manage their financial institutions without answering these questions can easily be blindsided.

Perils of pro forma financial statements
Given the flaws in generally accepted accounting principles (GAAP) financial reporting, many companies — both publicly traded and privately held — are turning to pro forma reporting to provide debt and equity investors with more meaningful financial information. Even though these numbers are unregulated and often inconsistent, many analysts and investors use them. This article focuses on the downsides of these unregulated financial measures and lists three clarifying questions to ask before relying on these results.

Is adding a health food store to your portfolio a fit idea?
When a lender and its customers join forces, in a sense, they voluntarily become conjoined twins. If a lender’s customers suffer, chances are it will feel their pain — literally. Take health food stores, for instance. On the surface, health food stores boast explosive growth rates and higher profit margins. But does their stability hold up under the microscope?

Are the long-term health care industry’s risks worth its rewards?
Despite its current unpopularity, the $100 billion long-term health care industry segment can offer lenders substantial upside potential. But to reap the industry’s rewards, lenders should first learn its quirks. Then lenders’ accountants can conduct individualized due diligence to find the most viable prospects. This article discusses the good and bad sides of lending to this industry.

FASB Interpretation No. 46 seeks accountability
When Enron, WorldCom and other companies’ accounting escapades were uncovered, the domino effect left public markets reeling. Unscrupulous companies took advantage of financial accounting loopholes to artificially boost profits and downplay liabilities. The Financial Accounting Standards Board (FASB) is scrambling to pick up the pieces and mend stakeholders’ shattered confidence in financial reporting. Among the onslaught of new, revised or reinterpreted accounting standards is FASB Interpretation No. 46, Consolidation of Variable Interest Entities, which this article discusses.

Finding and keeping top employees
Survey shows the role of benefits and training programs Even in times when job seekers outnumber available positions, community banks want to attract and retain employees with above-average skills and attitudes. Many banks find that employee benefits and training programs help them achieve this goal, according to results of a recent survey of more than 750 community banks by the American Bankers Association.

Tales your customers’ balance sheets may not tell
Balance sheets give financial statement readers insight into the state of a company’s assets and liabilities at a given point in time. As some lenders learned the hard way, however, balance sheets can’t always be accepted at face value because they may exclude some significant future obligations — including pending litigation or IRS investigations. These significant future obligations hide behind the softer sounding term “contingent liabilities.” This article discusses how to keep those liabilities at bay.

Tune in to problem borrowers
Ideally, lenders’ customers would never get to the point where they need an “intervention.” All of their numbers would add up, all of their businesses would be successful — everything would be harmonious and no monitoring of portfolios would be necessary. Unfortunately, reality is more dissonant. This article discusses crisis management.

Accrual accounting is no joke
Generally accepted accounting principles and the Internal Revenue Code require most companies to use the accrual, rather than cash, method of accounting. This means the companies record revenues as they’re earned and expenses as they’re incurred. So, recording revenues and expenses is independent of cash receipts and payments. This article outlines ways to detect financial trouble in advance.

All aboard the SBA Express
A recession brings out bankers’ selective and cautious natures. This is especially true when customers are smaller — and, therefore, riskier — ventures. Nevertheless, during this economic downturn, small-business loans are rapidly increasing, according to a recent American Bankers Association report. This article briefly discusses this loan type’s pros and cons.

FFIEC updates guidance for IT audits
It’s been seven years since the Federal Financial Institutions Examination Council (FFIEC) last published major guidance for information technology (IT) examinations, or IT audits. Earlier this year, the FFIEC began revising guidance for examiners and financial institutions to use in identifying information security risks and evaluating the adequacy of controls and risk management practices of financial institutions.

Internal controls say much about a company’s finances
When it comes to internal controls, only the strong survive. Companies with weak — or nonexistent — controls invite financial disaster. Clearly, disorganized entities are more susceptible to fraud than those that run a tight ship. But, often, companies that don’t take the time or spend the resources to implement a strict internal control system are also more likely to neglect other internal or administrative functions, such as accounting, marketing and human resources. This article outlines how to assess internal controls.

Making a family business loan Is it an offer you shouldn’t refuse?
Lending to a family business can be like a trip to the movies. One can choose from comedies, dramas and love stories. Sometimes, halfway through the show, a person realizes that the chosen movie isn’t what was anticipated. Many would leave and ask for their money back. Certainly, when lending to a family business, bankers have far more at stake than a $9 movie ticket. This article covers family business owners’ vagaries and key endemic areas lenders should inquire about