Dell R. Duncan is lending. In today’s environment, that’s rare.
It’s also rare that Ohio Commerce Bank, where Duncan serves as president and CEO, is growing while many community banks report losses. In 2009, assets were up about 9 percent to $73 million.
Though he’s ahead of the curve, Duncan knows the lending game has changed.
“In good times, it’s like nothing can go wrong. You tend to approve loans on what the positives are,” he says. “Today, because you’ve been burned on loans, you tend to highlight what can go wrong — especially with small business loans.”
Because banks are reluctant to loan, borrowers need to be more prepared than ever to present their case.
Smart Business spoke to Duncan about how borrowers can attract lenders.
What’s the first thing lenders look at?
The first priority — and it is a distant first — is demonstrating over the last two or three years the ability to have the profitability or cash flow to service the debt that the borrower is asking for. Regulators today are coming down hard on a transaction if the borrower doesn’t demonstrate the ability to make a payment, and that certainly influences banks’ decisions.
It makes it challenging for a year like 2009 where a number of businesses lost money. That string of two or three years of profitability has been broken. [With] many of the larger banks, because they have to make bankwide, industry-specific decisions, there tends not to be a court of appeals for one bad year. [Smaller banks] are willing to forgive or understand what might be a one-year loss that is not necessarily a trend.
How can business owners demonstrate strength despite a bad year?
What they need to do is demonstrate to the bank that it was a one-year aberration; it was due to the economy, not because of management failings or the industry changing.
[Large banks] basically designate certain industries as being undesirable. The difference with a community bank, we only need three or four new customers a month to make our projections so we can afford to spend however many hours it takes to understand fully the financial statements. It’s not just crunching ratios but some of the dynamics behind it. With companies that lost money, we are willing to spend the time to understand exactly what went wrong and what has management done to get back on their feet, what’s the game plan for 2010-2011.
The owners, more than ever, need to understand their financial statements and also where their business is headed. That’s where a good accountant comes in.
I’m amazed when we ask about significant items on a balance sheet — deferred compensation or notes receivable — and the business owner doesn’t have a clue. We’re talking about $100,000, $200,000 transactions. That doesn’t give the bank a lot of comfort that the owner is going to make the right decisions or even understand what needs to be done.
Beyond financials, how do lenders identify a strong company?
We tend to look at some nonfinancial factors like the strength and diversity of the management team. We crunch the numbers but we do spend time to visit the facility, meet the management team, make sure that we have a pretty deep understanding of their business, what makes it unique, what are the risks, what has management done to mitigate risks.
One of the other elements that banks will look at is the business model or strategy. If technology has leapfrogged their product or service, then even a historical profitability might not be there going forward.
Banks today are looking at risk factors that can cause problems within what might be a profitable company. Like customer concentration — it’s not unusual for small businesses maybe to have two or three customers that constitute a very high percentage of their sales. The risk is if the business loses one such customer, they can go from being very profitable to unprofitable.
The level of debt that businesses have certainly weighs in. You like to see borrowers that are disciplined when times are good; maybe they use some of the profits to pay back their line of credit and not distribute it to the officers of the company. The amount of debt as a percentage of the net worth is certainly something that becomes important to banks in these times.
We also look at the personal net worth and liquidity and credit scores of the owners because with small businesses, there’s a pretty good correlation between how management handles their personal finances and how the business handles their finances.
