The current lending landscape is rocky enough to give any lender heartburn: fierce competition, tight interest-rate margins, and far too many overextended borrowers who are still digging their way out of the debt they took on during the economic boom. Income and growth have to come from somewhere, so what’s an enterprising credit union to do?
For Technology Credit Union ($1.7B, San Jose, CA), the answer was to expand its presence in commercial lending, a category that includes real estate acquisition, new construction for multifamily homes, and business loans. Commercial lending accounts for about 16% or $150 million of the credit union’s loan portfolio, and the category grew more than 231% in the past year.
That growth didn’t happen by chance. Although Technology has always done some commercial lending, the credit union made a concerted effort to increase the sector a few years ago as a way to diversify and augment its business.
“The competition in our market is changing,” says Joe Anzalone, Technology’s chief banking officer. “There are more financial service providers — banks and nonbanks — coming in, and we know mortgages and auto loans will not carry the day.”
Catering to Entrepreneurs
Commercial lending also made sense for a membership that includes many entrepreneurs in one of the most entrepreneurial places in the country — Silicon Valley. In fact, many members approached Technology and requested more business products, which currently include everything from SBA and business loans to payroll services.
The credit union lends to businesses ranging from sole practitioners to mid-size firms who support many of the larger high-flying tech companies in the region. The loans vary in size from $200,000 to $10 million, though Anzalone hopes to capture larger amounts as the businesses grow. “We see a lot of small businesses that become larger businesses, and as they keep evolving we want to expand our relationship,” he says.
Financing that growth also requires understanding what the member business owner hopes to do and then tailoring the loan as much as possible to fit those needs. Part of that evaluation includes reviewing the business’s balance sheet and income statement as well as getting an idea of forecasted growth. The credit union’s fixed interest rates for business loans currently hover around 4.5% to 5%, with fees ranging from 0.5% to 1% of the loan amount. Although Technology prefers to amortize the loans over 25 years, it also makes exceptions, and Anzalone is quick to note that business lending can never be a one-size-fits-all product.
A Bumper Crop of Construction Loans
That flexibility certainly helps with funding commercial construction and multifamily homes, where the credit union has made steady inroads generating high-dollar loans. Most construction loans come from broker referrals and repeat business from former clientele. New hires with commercial expertise that Technology has culled from big banks also bring in business.
“These loans are very different from mortgages or auto loans, so it’s critical that we have the experts in place who can accurately assess the project,” says Lisa Fettner, the credit union’s vice president of marketing.
In July, the credit union closed a $3 million construction loan for an infill development of four townhouses with an investment company that had worked with Technology before on another project. The July deal came on the heels of a $9 million multifamily housing project the credit union helped finance a month before. The low-income housing is the first to be funded by a loan pool of eight financial institutions brought together through a local nonprofit that encourages affordable rentals. Technology is the only credit union to participate.
Although the housing market is rebounding with zeal in northern California, construction projects also demand putting a lot of money on the line, which Technology does prudently. The credit union prices its construction loans with variable rates, currently prime plus 1.5%. Loan terms run from 12 to 24 months.
The loans are approved for no more than 70% to 75% of appraised value, and the credit union builds in an additional buffer zone to ensure that the borrower can also pay the costs of servicing the loan. Typically, the credit union likes to see a margin that is 1.3 times larger than those costs, although that debt coverage ratio is only a rough metric and not a hard and fast rule.
The credit union exercises caution in other ways, too. Despite its success securing commercial loans, Technology has been careful to expand the portfolio gradually to ensure that its underwriters and infrastructure can handle the growth. As Anzalone puts it, “The worst thing you can do is bring in business that you don’t underwrite correctly or the service isn’t up to expectations.”