Part Two of a Two-Part Series
Industry experts identify commercial lending as the new avenue financial institutions are turning to as the banking scene grows more competitive and markets for certain areas of business such as residential mortgages shrink.

“The marketplace is extremely competitive. The interest margins have become considerably narrower,” said Dan Forte, president of the Massachusetts Bankers Association, in explaining why many community banks in recent years have placed a heavy emphasis on increasing their commercial lending activity.

Forte said banks are looking for new ways to raise interest-based profits. Getting into commercial and industrial, or C&I, lending and offering business lines of credit seem to be the most popular option right now for doing so, he said.

However, Forte and other industry professionals note new risks come with an institution’s decision to venture into this new line of business.

For some financial institutions, commercial banking is a completely new endeavor, requiring new knowledge and staff. And with more and more competitors deciding to expand their own commercial lending departments, success in the commercial lending arena is far from guaranteed.

Although not new to the C&I business, Danversbank is taking a new approach to handling its riskier business transactions. The bank has formed a subsidiary it is calling One Conant Capital, named after the bank’s headquarters street address.

Kevin Bottomley, president and chief executive officer of Danversbank, said things such as enterprise value will be taken into consideration by the division’s leaders, as well as the predictable cash flow for a business seeking a loan through One Conant Capital. As an example, he said the first cable television company that needed a business line of credit when cable TV was in its infancy probably did not have a steady cash flow at the time. The One Conant Capital team hopes to factor in the potential growth of a business seeking capital when making lending decisions, he said.

“It is arguably risky lending,” Bottomley said. “But not so risky we can’t do [these types of loans].”

“That is an interesting approach,” said Jim Jones, president and founder of First Wellesley Consulting Group, a Wellesley-based management advisory firm that specializes in the financial services industry, about the new subsidiary formed by Danversbank. “It sounds like they are going out a little bit further [with their business model].”

The Right Staff
As its commercial lending business grows, Danversbank is focusing more on larger accounts, Bottomley said.

“We try to do everything. It becomes harder and harder to do small loans,” he said.

Bottomley said One Conant Capital generally will work with borrowers seeking funds in the $3 million to $5 million range. However, there are exceptions. He said having a strong commercial lending entity allows Danversbank to compete with bigger banks in the area. He said, in general, there is a more level playing field in the C&I loan industry compared to other types of loans such as residential mortgages, a field in which he described the battle for business as “cutthroat.” Provided they have the necessary infrastructure and resources, community, regional and national banks all are able to compete for the same business loan opportunities, he said.

The $1.2 billion-asset Danversbank aims to compete with the larger banks in the state, and being a bit smaller and based locally does have benefits, Bottomley said.

“There is an advantage as we can be a little quicker to respond and more flexible,” he said.

The bank first ventured into C&I lending in the late 1980s and early 1990s. Bottomley said the business has matured quite a bit since then.

“The bank was one of the early savings banks to venture away from its traditional role,” he said.

Bottomley came on board in 1996 with a background in commercial lending. He said part of the reason the bank’s board of directors viewed him as a good fit for the job was its desire to bolster the institution’s commercial lending activity. During a period of rapid bank mergers and consolidation, recruitment of senior staff members with high levels of knowledge about and experience in commercial lending became possible, he said.

“In a sense it was a once-in-a-lifetime opportunity to pick up those people,” Bottomley said.

When Bottomley started in his current position about 10 years ago, Danversbank’s C&I portfolio was $22 million. Today, the bank’s commercial loan portfolio has grown substantially to $283 million. He said looking at the current balance sheet shows two-thirds of the bank’s lending business is commercial rather than residential.

Bottomley said there was definitely a plan in place to grow the bank’s commercial lending business. He added that perhaps the bank was ahead of its time, but given today’s market conditions it has proved to have been a smart move.

“It was really a different strategy,” he said. “The board had an idea that it had to move away from the more traditional model.”

But today that same strategy is becoming more commonplace in the banking world. Bottomley said that net interest income is becoming harder to generate, and because of that more and more banks are looking toward commercial lending as a possible source of growth and profit.

“I would say it is more competitive today,” he said.

The consensus among industry experts and professionals is that having the right people in place is key to successfully making inroads into commercial banking.

Timothy T. Telman, president and chief executive officer of the Bank of Cape Cod, slated to open soon in Hyannis, said the decision to open what primarily will be a commercial bank on the Cape is a reflection of the market there. He said there seems to be an endless number of mortgage brokers on the Cape, but focusing on business lending may set his institution apart.

“You look at the market and say ‘what is the need, what is the opportunity,’ and then you create something that meets that need and that opportunity,” Telman said.

He said he views commercial real estate lending opportunities as a bigger growth opportunity on the Cape rather than business lines of credit, but that mainly has the do with the demographics of the Cape Cod market.

“Down here you have a huge service community; there is less manufacturing,” Telman said.

However, in other parts of the Bay State financial institutions are seeing a real opportunity in aggressively reaching beyond commercial real estate loans into areas such as lines of business credit to generate new interest income and customers.

Jones warns that newcomers really need to understand the level of risk in C&I lending. He said it may seem easy and attractive, but the truth is it won’t be a viable option without understanding the business and the risks involved

“They shouldn’t get into it casually,” said Jones. “C&I works because of account managers. Banks just getting into it need to acquire commercial lenders with the know-how to build a book [of business].”

Jones said business lending is always a gamble and financial institutions need to accept that they will likely take a loss from time to time. Unlike real estate lending, the collateral might not be tangible or of much value to the bank if the borrower is unable to pay the loan.

“You are betting that the business will be able to generate enough cash to be able to pay back the line of credit,” said Jones. “What do you do with raw plastic and plastic spoons” if a plastics company goes out of business, he asked.

Next Generation
Credit unions also are among the institutions entering the increasingly competitive commercial lending field, saying they are filling a void for their members. Some of those members would likely go elsewhere for all banking needs if the credit union is not able to assist them with their business banking requirements. Rob Kimmett, senior vice president of marketing for the Massachusetts Credit Union League, said there are several Bay State credit unions currently beefing up their commercial lending products.

However, Kimmett also warned that C&I lending can be risky and credit unions moving into that arena must be well prepared before making the leap.

“You really have to look into the fundamentals of the business,” he said. “The collateral might not be equal to the risk-factor of the loan.”

Some credit unions are realizing that commercial lending is not their area of expertise and reaching out for help.

“[Credit Unions] say we see an opportunity, but we don’t have the proper infrastructure to assess risk or monitor risk,” Kimmett said.

“I think it [commercial lending] is a very safe business if it is done the right way,” said Scott Anderson, chief executive officer of Northeast CUSO, a credit union service organization that provides the infrastructure to service and manage small-business loans for credit unions.

Anderson said bankers typically seem to have stronger backgrounds and more training in commercial banking than do their credit union counterparts. However, as credit union charters have changed, making membership available to more people, the needs of members are changing. Commercial banking is now something that is more frequently being demanded of credit unions by their members.

“This is an expanding kind of movement in the credit union world,” he said. “The fact that we exist and it’s going well is a sign that supports that trend.”

Northeast CUSO is owned by the participating credit unions and was formed in 2005 to pool resources and help them meet their members’ commercial lending needs. The CUSO currently provides nine credit unions with the services they need to bring C&I loans to their members, having grown from four original founding institutions. The CUSO also weighs the risk and helps the credit unions make smart decisions about business loans, he said.

Just as some credit unions may not have the in-house expertise to successfully enter the commercial lending field, Jack O’Neil, executive vice president and senior lending officer of Danversbank, said banks must devote a lot of training and resources to be able to compete. The average commercial lender at Danversbank has 20 years of experience, he said. And while commercial lending is seeing a resurgence in interest among financial institutions, many long-time bankers across the state remember vigorous training programs that seem to have vanished or have been scaled down dramatically. O’Neil said he hopes the industry as a whole will start to address commercial lending training in a new way so that a new crop of experts can emerge with the same skill sets. C&I loans are far more complex than other loans such as home mortgages, he said. The commercial lending community really needs to examine how it is grooming the next generation to operate in the field.

“One of the concerns I have is I don’t know where the next batch comes from,” said O’Neil.