Ron Alsbrook knew things were changing last October, when one of his longtime customers came in brandishing a pre-approved offer from Wells Fargo Bank for a $50,000 credit line.
Mr. Alsbrook, senior vice president of small-business lending at Union Planters Corp., felt he had no choice but to embrace the latest in credit scoring technology. The Memphis bank soon began mailing out letters similar to the one Wells had sent to his customer, a liquor store owner.
"If we hadn't had a personal relationship with that business for the last 70 years, we might have lost it," Mr. Alsbrook said.
The move by Union Planters and hundreds of other small-business lenders toward credit scoring is a dramatic and fundamental shift. Many believe this specialty is poised to become a high-volume, low-margin mix of highly standardized products, resembling mortgages or credit cards.
"You aren't going to have the banker sitting down with the small- business owner and tailoring a product to that borrower," said Latimer Asch, vice president of commercial products for Fair, Isaac and Co.
Many traditional bankers have been shaken by the changing nature of customer relationships but view it as inevitable. Some see a huge profit potential.
"In the past, if a bank was willing to lend money and have a relationship, the customer was pleased," said Donald Schwartz, Dime Bancorp's executive vice president and general manager of small-business banking. "Now the customers may have two or three or more options."
Credit scoring is fueling the trend. Complex computerized tools can assess risks and creditworthiness so quickly-and judging from their consumer lending experiences, so accurately-that bankers can make decisions in seconds to lend to people they have never seen.
"Banks are going to have to find a cheaper delivery system," Mr. Alsbrook said. "Direct marketing and pre-approved mailings cut out some of the costs."
Banks using these methods can employ fewer lenders and require much less time to approve loans. That enables them to do higher volumes and lend to entrepreneurs who interact with the bank only by mailing a monthly installment check or by calling a toll-free telephone number.
"Those players are interested in growing a portfolio rapidly and striking while the iron is hot in the small-business market," Mr. Asch said.
The shake-up is being driven by credit card lenders-the likes of American Express Co. and AT&T Universal Card Services-which are exhausting the supply of highly creditworthy consumers and looking to small businesses as their next growth market.
"The domestic credit card market is saturated and the next best alternative is small business," said Tommy D. Fuller, national bank examiner for the Office of the Comptroller of the Currency. "Wells has really launched into it and others are taking it slow."
American Express and AT&T began marketing small-business cards nationwide in the last year.
What's more, 24% of banks mailed pre-approved credit applications to small-business prospects last year, according to a survey by the Consumer Bankers Association. That has increased from almost none in 1992.
"Anytime a market gets competitive, you end up competing on price," said Martha Hayes, director of small-business banking for First Union Corp., which lends by mail and telephone. "You have to streamline the entire process to lower the costs."
But the push for volume leads banks down the path of cookie-cutter commodity products-and a level of competition akin to that in computer discounting and long-distance telephone services. Banks increasingly are struggling just to differentiate their solicitations from the rest of the junk mail inundating entrepreneurs' in-boxes.
"We are always challenged with competing against other mail solicitations and constantly looking at ways to make ours stand out," said Melonee Hostetler, vice president of Signet Banking Corp., Richmond, Va.
Small-business credit applications look much like credit card applications. Once presented with reams of forms to complete, an owner can now simply return one-page forms to the bank.
"The applications are all the same," said Terri Austerberry, a McKinsey & Co. senior consultant. "You take away the relationship and the geographic constraints and make it more of a commodity business."
The standardization of credit products is leading to another major development that could alter the small-business market's profit dynamics: securitization.
Loans underwritten by similar or uniform means become easier to pool as securities and sell to investors. Small Business Administration loans are routinely securitized and moves are afoot to extend the practice to other business loans.
Banks exploring this method are spurred on by the successes of nonbank SBA lenders and by Wall Streeters eager to devise new types of securities to profit from an extended bull market.
Proponents of securitization say price competition will force banks to use credit scoring and securitize their loans as a way to fuel growth and generate fee income from servicing-in much the same way mortgage bankers don't make money on spreads but on loan servicing and origination income.
"I don't wonder whether it will happen-it's a question of when," Gary Klein, a Signet executive vice president, said of small-business securitization.
Mr. Asch said credit scoring could be used as a basis for creating fairly homogeneous pools of small-business loans with a similar likelihood of repayment.
A bank software company and a California firm that securitizes mortgages already have teamed up to create a company to securitize community bank small-business term loans for equipment and lines of credit backed by accounts receivable.
Thomas Sidley, chief operating officer of the securitizing firm, nicknamed Lori Mae, said it plans to securitize $20 million in small- business loans this year and as much as $120 million next year.
Mr. Sidley said banks that securitize such loans could bring their returns on equity from an average of 15.6% closer to the 25.6% average for finance companies.
"The pattern has already been established," Mr. Sidley said. "If you look at how the mortgage market has evolved, you could see the same thing happening with small business."
Most bankers cringe at the idea that a bread-and-butter business could be reduced to a world of cutthroat competition with razor-thin profit margins. But the momentum may be unstoppable.
At the Consumer Bankers Association's small-business conference, Frederick O. Terrell, chief executive officer of Provender Capital, spoke to more than 100 bankers about the benefits of securitization.
"Is there any reason small business wouldn't look like mortgages?" asked James Manfuso, a consultant with BenchMark 2000.
"Well, since you raised the issue," Mr. Terrell responded with a smile, "That will happen. There are too many forces that are hungry to do it."
