From the Durbin amendment to Reg E, recent regulatory developments have financial institution executives seeking new sources of revenue. However, instead of embarking on the quest, financial services industry executives should look to return to the basic fundamentals and focus on interest income, the most important revenue component for credit unions and often forgotten about.
There are four important drivers of lending performance that affect the ultimate outcome of a credit union’s lending business. This article will take a closer look at how to improve each of the following components of loan yields:
• Pricing discipline,
• Sales and negotiating skills,
• Operating efficiency, and
• Management reporting and incentive systems.
Pricing loans to match the competition has not stopped the erosion of margins. Without a sound starting point and an understanding of the price needed to reach the organization’s objectives, there is little hope of resisting pushback from any client. That is why an effective pricing discipline can yield substantial revenue lift.
This discipline leads to increasing net interest margins in the loan portfolio by rating borrowers on risk-adjusted profitability, which ensures the institution is being paid for credit risk associated with different grade loans. Executive management must also encourage officers to cross sell other services and secure core deposits. This activity helps to improve relationship profitability and create value-added sales opportunities. Finally, the institution needs to make sure they collect fees for member service activities that would warrant some type of payment.
Many times relationship managers in the credit union–those who complain the loudest about their competitors giving away credit to undercut their pricing–offer the worst loan yields. Building strong relationships in business is the key to success in a competitive marketplace. Knowing this, most relationship managers rely on developing high-impact, client-facing skills as a way to expand their member relationships.
But an equally important skill in maintaining strong, professional relationships has often been overlooked. This is the ability to successfully negotiate the terms of the deal after the member indicates they are ready to commit. This is when the stakes are highest in a relationship, when there is the most to gain and the most at risk. Key activities in effective loan negotiation include uncovering and prioritizing the needs that lie beneath negotiation points for the member and the credit union, conducting meetings that develop solutions in a way that enhances the relationship, using a creative process to break through seemingly insurmountable impasses, responding to tactics that keep negotiations centered, and using principled negotiation to get better outcomes for the institution.
Pricing discipline and sales savvy will not compensate for poor underwriting and closing processes. While the elapsed time to make and fund a loan varies significantly by credit product, borrowers expect and value timely decisions and error-free processing in funding the loan. FIS’ experience with lending products has identified common business process improvements that should be addressed in order to optimize the member’s loan experience.
Poorly deployed technology or inadequate use of available systems that support all aspects of loan processing need to be rethought and optimized for current workflows. This includes imaging and workflow management, underwriting tools and document preparation systems. Misaligned duties and responsibilities within the organization need to be identified and adjusted. For example, experienced senior staff can be engaged in low value-added tasks, which is particularly common in commercial lending.
Another aspect of staff misalignment is finding resources deployed in markets with low business potential or portfolio assignments that overload certain lenders while underutilizing the full capacity of the lending staff. These can be corrected by evaluating the potential of all markets your institution serves. Lastly, redundant checks and controls that do little or nothing to actually improve the quality control function must be identified and removed.
The old saying that you get what you measure could not be truer than in the lending area. Lender production and relationship reporting tends to be heavy on new business and asset quality and somewhere between low-key and silent on other matters of profitability.
Opportunities exist to improve overall lending performance by improving reporting and reward systems, including product goal setting that covers specific goals for profitability, such as objectives for margin income. Executives should also demand periodic reporting of the performance of individuals against their goals, and these individuals should expect coaching and other corrective actions to focus them on achieving desired results. Finally, incentive rewards need to be designed to ensure collection of fees and achievement of margin goals that emphasize loan production and asset quality.
In closing, getting back to basics by addressing the controllable aspects of a credit union’s lending business should improve an institution’s overall revenue picture more dramatically than focusing on the revenue area, noninterest income, that has been garnering recent headlines. The time to focus on increasing lending revenue is now.
Dan Shannon is senior vice president at FIS Consulting Services.
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