What your banker will never tell you…

What your banker will never tell you…

Matthew_Royal By Development Finance Partners / Matthew Royal

Today I will take you inside a bankers head and tell you what he will never tell you. I will also tell what mistake never to make as a commercial property developer and how a bank might react to being behind on your construction loans.

It’s not often you have the opportunity to get inside the head of your banker (scary place, right?).
But in this blog I’ll bravely take you there.
Although I’ve never been a fan of horror movies, in meetings with new clients I hear a new horror story every week. In most cases, scenarios follow a similar plot: the client is the innocent victim and their bank or banker is the evil villain. Of course, the story would be different if told from the banker’s perspective!
I’d like to bring some balance to the story – having been a property banker, investor and advisor, I understand the realities of life from each of these perspectives. Let’s start with the banker. The first thing you need to know is that the banker or the bank is not your friend, nor your joint-venture partner who shares risks and profits. Many of our new clients learn this the hard way even after many, many years of being loyal to one bank.
An inconvenient truth, as the film title so famously put it, is that borrowers often become very complacent – and probably a bit lazy – when it comes to one of most crucially important parts of their business: financing assets and new developments.
Talk to seasoned property developers or investors, and even most experienced bankers, and they will tell you that banking relationships are fair-weather based. If it’s fine and sunny, it’s all smiles. However, if it’s dark and stormy, the smiles quickly turn to tears.

Spread your risk

The old saying “don’t put all your eggs in one basket” is true when it comes to banking. Never, ever, ever have all your fixed assets, cash/savings, business trading accounts and transactional accounts with the one bank. There’s an important reason for this. Once the bank has an ‘all monies’ position it can go into ‘cash lock-up’ mode on you (don’t you love these terms bankers use?).
Speaking of banking lingo, it is important to understand that bankers have great incentives to secure what we call ‘share of wallet’. That simply means they cross-sell as many products and secure as much of your total banking requirements as possible. This greatly increases the banker’s loan portfolio profitability, reduces risk (the bank’s, that is), decreases competition from other banks, gives them greater control over you and lets them monitor your overall liquidity. In short, you are at their mercy.
This is where it gets scary. Suppose there is an event which triggers a review of your facilities (whether it be a scheduled review or otherwise) and the bank determines you are outside of ‘arrangements’ or ‘loan covenants’. It could then – depending on the breach – do one or more of the following:
• ask you to reduce your facility limits with them
• apply the cash you have on deposit to debt reduction
• freeze your trading accounts and credit cards
• apply net free cash in your rental proceeds accounts to debt reduction
• request that you refinance, increase your interest rate margins or apply a default rate
• charge you additional fees
• instruct very expensive specialist due diligence reports
• apply 100 per cent of net sale proceeds of stock/assets to debt reduction
• formally cross-securitise all of your assets
• apply caveats to your personal assets over which they do not have security, courtesy of rights afforded to them per your personal guarantees
• withdraw all finance approvals yet to be drawn down
• encourage or force you to dramatically reduce your overheads, including staff
• withdraw any undrawn loan approvals.
Property developers are likely to be put in a position whereby they have to sell down their most liquid profitable assets: at values less than market to quickly reduce debt, thereby rapidly eroding their net equity and ability to reduce debt through their core business over the medium term.
You can imagine the flow-on effects to the rest of your business, projects, forward cash-flow and ability to deliver your development pipeline!

Heed the warnings

Once things start going bad it can be a very slippery slope to ruin. You might say “that will never to happen to me”, but I am here to tell you that most borrowers who have suffered such a fate never believed that it would happen to them either.
Don’t say you were never warned. I have had clients who had forced on them every one of the above recovery actions. These clients are understandably very frustrated and angry, and cannot begin to understand why their bank is acting so unreasonably and uncommercial – potentially even creating heavy losses for itself!
Unfortunately, for people who take out development loans and their often-frustrated bankers, the banks’ modern-day post-GFC loans management policies are highly automated and robotic. The days of “old-school” relationship banking are long gone.
The banks’ computerised credit risk grading models reduce your credit worthiness down to standardised numeric ratings, which largely decide your future with a bank. As a result, the influence and discretionary decision-making authority of our local banking relationship manager has been largely reduced to zero.
With rare exceptions, your banker is authorised to approve virtually nothing and say no to virtually everything. If you don’t believe me, ask your banker whether they would agree with that statement or not.
So, more often than not, the banker is really not the evil villain in the story, after all. They are simply forced to work within the boundaries of the bank’s lending guidelines and commercial loans management policy.
Read part 2 of “What your banker will never tell you” here.

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