Are credit union business loans poised for problems?
Member business lending at credit unions remains strong, but with growth fluctuating and a potential economic downturn around the corner, lenders and analysts are urging caution moving forward.
Total MBL balances stood at $75.4 billion at the end of August, up 3.4% from two years prior, according to the most recent Credit Union Trends Report from CUNA Mutual Group. But that August figure is a stark drop from September 2018, when balances stood at $83.7 billion, and year-over-year growth has been negative in nearly every one of the last 12 months, in some cases dipping into negative double digits.
Recent economic conditions have been strong enough that “we don’t really know how good of underwriters anyone in the credit union space has been over the last three or four years,” said Ray Lindley, chief lending officer at Elevations Credit Union and vice chair of the CUNA Lending Council. And it’s likely to take a major economic change before there’s a widespread understanding of just how well some loans have been underwritten.
“The scary part about the commercial/business space is that it’s newer to credit unions,” he said. “I don’t think the credit union space is as experienced and has as much history with [business lending]. The odds of it impacting the credit union space are large because we don’t have as much experience as the banking sector” and might not be underwriting loans as prudently.
Still, MBL portfolios at many institutions – particularly larger credit unions – are still growing, and Joel Pruis, senior director for Cornerstone Advisors, suggested even if growth is slowing, there is “business to be had,” particularly in commercial real estate.
“We have seen some shift to construction lending instead of refinancing existing mortgages,” Pruis said.
One phase that has seen the largest amount of construction is hospitality – hotels. Pruis said there is a “concern” about a “glut of capacity” in some markets. Multifamily units also are being built in large numbers, he observed.
Lending to businesses via lines of credit remains a “great opportunity” to build member loyalty, Pruis said – not just the loans, but adding business services. He said credit unions have been getting better at online business services.
“Overall, credit unions are on par with similar-sized banks, especially on the lending side, but on the services side they are still behind the market,” Pruis assessed. “They need to make a great improvement in that area by making an investment in the new tools and technology that are available, and add talent. They need to offer a holistic arrangement, not just the loan itself.”
Bullish, but …
The institutions interviewed for this story were bullish on the future of member business lending despite the possibility of an economic downturn. All spoke of maintaining “strong” underwriting standards and realistic funding of their provision for loan losses.
Glendale, Calif.-based California Credit Union has seen its MBL portfolio grow over the past two years thanks to a strong economy in the Golden State, but President and CEO Steve O’Connell suggested there are “some indicators” that assets are at peak levels.
“We are not concerned yet, but in our perspective – and we have been doing business lending since 1998 – we stay pretty steady while taking minimal losses during the down times,” O’Connell said. Still, he added, the credit union has become “more choosy” with its business lending, turning down more deals in the past few months than it did in the past two years.
Gene Pelham, president and CEO of $1.6 billion-asset Rogue Credit Union, Medford, Ore., said delinquency is just 66 basis points on its member business lending portfolio, compared to 49 basis points overall, with no charge offs in 2019 on the MBL portfolio. Rogue CU has $121.5 million in business loans, mostly commercial real estate secured.
“We are very conservative in what we do – no construction, development or agricultural loans,” Pelham said. “We require a personal guarantee from the borrower on most deals.”
Pelham added that Rogue’s experience after absorbing Chetco FCU following its conservatorship and working with its troubled commercial portfolio has helped give staff “perspective on risk and what should and should not be done.”
At One Nevada CU, MBL volumes for the last year or so have been “fairly flat” following five years of growth, said Sandy Thompson, VP of business lending at the $929 million-asset shop.
“We have had about the same number of new loans as runoff,” he said.
The Las Vegas-based institution typically only does commercial real estate loans valued between $1 million to $5 million.
“Our board and senior management have a comfort level with commercial real estate lending, and because of our loan size it has been mostly retail, office, warehouse and a few other property types we are familiar with,” Thompson said.
Cornerstone’s Pruis suggested CUs take steps now to prepare their business lending portfolios for a possible slowdown, including managing relationships with member businesses, getting updated rent rolls on a timely basis and ensuring the CU has access to tax returns and financial statements for those clients.
With that in mind, Pelham said Rogue’s allowance for loan and lease losses is ready when economic conditions change.
“In our business lending provision we have an understanding of what our current risk is, and the risk in a downturn, so we are putting in about 100 basis points, while our peers are at 34 BPs. That is conservative. Rogue might be our name, but it is not our attitude,” Pelham said with a laugh.
If the economy turns south, “it will not be a problem for a well-run shop,” said James Kenyon, CEO of Whitefish CU in Montana. Kenyon went on to dispute Lindley’s suggestion that a recession could expose weaknesses in some institutions’ underwriting.
“Credit unions are doing a lot better at understanding what they are doing. We do not do speculative lending any more, no developmental loans,” Kenyon said, adding, “Even the banks are not doing developmental loans like they were prior to the Great Recession.”
The key, added Pruis, is to ensure any potential loan performance issues are identified before it’s too late.
“Credit unions should not be as generous as they are in working with a member on a consumer loan; they need to be tougher on the business side,” he said. “A small business can vaporize and leave a credit union holding the bag.”
Aaron Passman contributed to this report.