Improving the economics of small business lending

U.S. small business lending is big business, but community banks in recent years have given up market share on this segment as they focus on more profitable lending areas. However, community institutions can reclaim their relationship with small business borrowers and increase earnings through profitable small business lending, according to Abrigo Vice President Neill LeCorgne. “With the right processes and technology in place, small business lending can become a profitable segment and opportunity for growth,” says LeCorgne, who will soon lead a Abrigo webinar, “Reclaim Your SMB Lending Market.”

Small business lending in the U.S. is a $700 billion business serving more than 58 million small business employees working in 29 million small businesses. In addition, business owners represent valuable and potentially loyal wallet share for banks and credit unions.

Community banks have historically been a major source of credit for small businesses. The unique combination of services they provide and the manner in which they do business are often cited as the benefits of community lending. They are relationship bankers, characterized by local ownership, local control and local decision-making. They can make lending decisions based on personally knowing the character of the borrower, the collateral, traditional financial analysis and the needs of the community.

However, the differences across small business borrowers and their intended use of borrowed funds have made it more complicated and expensive for community banks to develop and identify individual small business loans. These factors, coupled with rising regulatory expenses and industry consolidation, have led to lost market share of small business lending by community banks in recent years.

Banks with less than $1 billion in assets had 39 percent of dollar-share of small business loans in 2010, but that share had fallen to 32 percent by 2016, according to data from the FDIC. Banks with more than $1 billion in assets, meanwhile, grew dollar-share of small business loans over that same time period to 68 percent from 61 percent.

Faced with a choice of handling a $1 million commercial real estate (CRE) loan or a $40,000 small business loan, most community institutions have had to focus resources on the larger CRE deal.
But LeCorgne believes that many community banks can make changes to their processes that will reduce friction points in the small business lending process and will improve the economics of making small business loans. This can turn into increased earnings for the bank.

“Community banks looking for earnings growth should turn back the clock to the loan segment that defined community banking for decades – small business lending,” LeCorgne says.

Community banks have technology available to them today that can improve and speed up their processes. Technology that automates time-intensive processes such as the loan application process can reduce the time highly compensated commercial lenders spend tracking down financial documents and other information necessary to get the loan started. Standardizing and automating other processes related to scoring and pricing can leave lending staff the time to cultivate new business and spend more time assessing and meeting the needs of current customers. At the same time, the financial institution is able to compete more effectively without being tempted to loosen standards on interest rates and terms to secure the small business customer’s business. In this way, community banks can leverage the benefits of local ownership and local decision-making, supporting the local community while also managing risk and growing profitably for shareholders.

Learn more about how community banks can improve the economics of small business lending and create profitable small business lending during the webinar, “Reclaim Your SMB Lending Market.”

Additional Resources

On-demand webinar:  Maintaining Credit Quality During Periods of Growth

On-demand eBook: Agile Bankers: How Community Banks are Addressing Disruption, Risk, and Growth