By Neill LeCorgne
It’s time to leverage community bank strengths to boost small business lending.
U.S. small business lending is a $700 billion market, serving more than 29 million small business borrowers. And although community banks have lost substantial share of that market over recent years, they can recapture it. The keys to doing so profitably are:
- Leveraging their strengths in relationship lending
- Access to technology
The three major lending groups that currently serve small businesses are large banks, community banks, and a more recent entrant to the lending sector: online alternative lenders.
The upside.
Community banks—those with assets of less than $1 billion—have historically been a step ahead when it comes to fostering relationship-based lending. Their approach is typically characterized by local ownership, control, and decision-making.
In other words, relationship lenders can make lending decisions based on personally knowing the character of the borrower, the collateral, and the needs of the community.
The downside.
A number of factors have resulted in a limited availability of loan funds for small businesses—and a hesitancy on the part of community banks to expand small business lending. These factors include:
- Limited resources compared to larger banks
- Recent acceleration of merger activity in the community bank sector
- Origination and onboarding inefficiencies resulting from the lack of up-to-date technology
- A regulatory burden that is proportionately higher for smaller banks than for large ones
The average ratio of compliance expenses to noninterest expenses can be as high as 8.9% for banks with assets of less than $100 million. Compare that with 2.9% for banks with assets of $1 billion to $10 billion.
Consider how things have changed.
In 2010, commercial U.S. banks reported 19 million small business loans with an aggregate loan balance of $625 billion, according to data from the FDIC.
At that time, large banks funded more than three-quarters of the total number of small business loans and 61% of the aggregate loan balance. Community banks, meanwhile, reported 22% of the total number of small business loans, with an aggregate loan balance of $242 billion—or 39% of all small business lending by commercial banks.
Fast forward to 2016. Commercial banks altogether reported 23 million total small business loans, an increase of 4 million from 2010, with an aggregate loan balance nearly unchanged at just over $627 billion. However, large banks by this time funded 87% of total small business loans and 68% of the aggregate loan balance.
These figures represent important changes from 2010.
Small business loans funded by community banks dropped—both in number and aggregate loan balances. Indeed, community banks reported just 3.1 million, or 13%, of small business loans, with an aggregate loan balance of $199 billion, or 32%.
In recent years, online alternative lenders have also made inroads into small business lending. This group is highly innovative in their use of technology. And many borrowers are willing to pay the often higher rate these lenders offer in exchange for an easy application process, a quick decision, and rapid availability of funds.
As a result, online lenders have captured a rapidly growing share of lending since the financial crisis. In aggregate, the outstanding portfolio balances of these lenders have doubled every year since the mid-2000s. It is estimated that in 2015 online alternative lenders originated $5 billion in small business loans. While this amount represents only a fraction of U.S. small business lending overall, the rate of growth is notable.
What comes next?
Small business lending has defined community banking for decades. Allowing that loan segment to dwindle away is a mistake. But community banks can do something about it.
Coupling the relationship focus they are known for with a technology-enhanced loan origination and onboarding process, smaller banks can begin to recover market share in small business lending.
Current technology advancements allow community banks to change the workflow process and rely less on staff and paper-intensive processes. That enables them to place the loan officer back in the role of developing new loan opportunities and building community relationships. And the credit analyst can get back to the role of underwriting loans.
It’s also now possible to:
- Eliminate data entry by scanning in tax returns
- Automate the spreading of financial data in minutes
- Price loans faster and more consistently
- Score a loan using customized credit factors
It used to take days and weeks to approve and onboard a small business loan. With the right technology, even a community bank can complete the process in hours. And quicker decisions are available to those borrowers who are eager to move forward.
A better customer experience.
Automation of certain steps in the process can also provide a more simplified, enjoyable experience for borrowers.
For instance, solutions are available that allow upload of required loan information through an online loan application portal, majorly reducing effort on the part of borrowers to submit these documents. The final steps in the process can also be automated to allow documents to be produced, reviewed, and electronically pushed out to the client through the loan portal for closing.
Community banks have a unique opportunity to reclaim market share in small business lending by incorporating technology that can improve and speed their processes—without giving up the power of local ownership and local decision-making.
Neill LeCorgne is Vice President of Banking at Sageworks, a financial information company. A career banker, he is responsible for working with financial institutions to enhance their operating strategies including improving efficiency in the lending process.
