Jeff Judy

Jeff's Thoughts - May 31, 2017

The Perils of a Growing Borrower

We all like to think of ourselves, in the credit industry, as helping businesses grow. We provide a variety of financial services to support businesses, with credit often being the key element in the support we offer.

And a growing business is good for us, of course. It typically means larger credits, more fees, more services delivered to and paid for by the business.

But all growth is not equal, in business or elsewhere. Rapidly growing weeds cost farmers big bucks for chemicals to control these competitors for their cash crops. And when your doctor says you have a growth on your neck, that is not good news.

So it is in business. Growth can, and should, be orderly, steady, even, and healthy. There are really two problems with the growth of our credit customers:

For the business, the issue is sustainability. We have all seen the retreat, and even collapse, of businesses that, say, opened too many locations too quickly. Or a business may have come up with a hot product that turns out to be a "one hit wonder," leading them to put way too many eggs, and resources, into one basket.

Sometimes practical, physical challenges trip up excessive growth. The expansion may require more equipment, additional real estate, more labor. Whenever your borrower presents significant growth, you should be looking at the infrastructure that will be needed to support it. On the one hand, if they can't build that infrastructure, their growth may suddenly come to a stop. On the other hand, it is possible to overdo it, to increase the infrastructure way beyond the point of demand for the borrower's products and services.

I believe that credit staff need to be more diligent about looking at those basic underlying factors in sustainable growth. It requires making some assumptions about the business, about the economy, but it is well within the kind of "what if" thinking that is part of any credit analysis.

More challenging, but just as important, is the human side of sustainability. We all know that the skills needed to get a small company up and running are somewhat different from the skills needed to manage a larger organization. You have to assess whether the current management of the borrower's business is capable of guiding the business through the next stages of its development.

And if you don't see the current leadership as a likely success in the future, as growth occurs, do you have the courage to discuss changes in management that would be needed to maintain the borrower's creditworthiness?

Finally, do you have the courage to let a borrower go if you believe they are going to grow themselves into trouble? Or is any borrower's growth always good, at your institution?

It takes a lot of discipline to seriously analyze a borrower's sustainability when we are dazzled by their ambitious growth plans. But without that discipline, the one thing you can be certain of growing is chargeoffs when borrowers can't repay their debts.