Small businesses are an important segment for banks and credit unions with aggressive growth goals. In the United States, small businesses make up 99.7 percent of employer firms, according to the SBA FAQ Sheet. The top concern for these firms is managing their cash flow needs, which creates a great lending opportunity for banks and credit unions. Unfortunately, it can be a difficult opportunity for them to take advantage of because of their antiquated processes.
As Steven Martin, vice president of strategy at Sageworks, discussed during a recent webinar, the demographic composition of small business owners is shifting away from baby boomers and towards Gen X’ers and millennials. These younger business owners are more tech-savvy than their parents. They are more used to shopping online, including for credit and financing solutions. Additionally, many small business owners are too busy running their businesses to leave to visit a branch to begin the application process. When these small business owners go online looking for loans, they find that over 80 percent of banks and credit unions do not offer a way to apply for a loan online. This causes many small business owners to turn to alternative lenders for credit. These "alt lenders" can provide the funds faster and offer an end-to-end online experience. The number of small business owners who turn to alt lenders instead of banks and credit unions is growing. If financial institutions want to preserve and grow their SMB lending business, they will need to revisit two aspects of their loan origination strategy.
Small business borrowers deserve a better experience
Slow and complex loan application processes at many financial institutions frustrate small business borrowers. On average, an application for a small business loan takes two to four weeks. By the time borrowers submit an application, they have already spent an average of 26 hours researching capital options. Once borrowers decide they are ready to apply for a loan, they do not want to spend weeks waiting to receive their funding.
Many of the alternative online lenders charge much higher interest rates than banks and credit unions, yet, business borrowers short on time are increasingly willing to pay more in fees or interest rates to fix their cash flow problem.
Additionally, the difficulties of traveling to a branch and chasing hard copies of documents make the application process even more tedious. Improving the borrower experience is critical for banks and credit unions that want to grow their SMB portfolios.
Costly origination of SMB loans
A second challenge to growing the SMB portfolio is the cost of originating small loans. On average, the cost to originate a small business loan is almost as high as the cost to originate a much larger loan. The lower profits on smaller loans means that many banks and credit unions struggle with achieving sufficient profitability on SMB loans.
However, simply ignoring the SMB market narrows the institution’s opportunity to grow. Also, banks that already have a depository relationship with a small business may risk the entire relationship if they can’t provide a loan.
How then to increase profitability of small business lending?
First, the institution can reduce costs by making the job easier for lenders. Leveraging tools such as an online loan application, which allows borrowers to enter their information and submit documents online, saves loan officers the time of tracking down all the necessary documentation. Institutions can also reduce the time analysts spend entering data by utilizing a tool such as the Sageworks Electronic Tax Return Reader. The ETRR reads and imports data from the borrower’s tax return into the spreading software.
Another major cost of loan origination is the time spent analyzing and decisioning a loan, and automated tools can help here as well. For example, a bank that specializes in agricultural lending may be very familiar with equipment loans. This bank could see significant time savings by implementing loan decisioning software that can be tailored to its risk appetite for ag loans. The bank sets the required metrics and approval criteria, and the software provides a recommendation on the loan. This allows analysts to enter less information and make a faster decision while maintaining pre-existing credit standards.
Small business lending is an important segment for growth-minded banks and credit unions. However, frustrating borrower experiences and expensive application processes make it difficult for many institutions to build profitable SMB lending programs. By leveraging technology to improve the borrower experience and increase profitability for the institution, banks and credit unions can build a path to growth with business lending.