by Joe Andries on Monday, June 10, 2013
Evolving from a Broker to a Lessor: Galvanizing Your Resistance Against Economic Downturns
Although the leasing industry appears to continue its recovery from the 2008-2009 economic downturn, the memory of those turbulent times should remain top of mind. As a wise philosopher once said “Those who don’t know history are destined to repeat it.” To follow that advice, brokers should take note of valuable lessons to be gleaned from the recent recessions.
A broker is only as successful as their access to diversified funding sources. During the exodus of funding sources in 2008-2009, many brokers remember receiving the call or letter informing them of the bad news, that funding was no longer available. There were many brokers who experienced sleepless nights and were in panic mode as they scrambled for alternatives to maintain revenue and save program relationships.
The challenges that faced many brokers during the downturn were even broader. The number of origination opportunities dropped dramatically as companies were not buying or replacing equipment. When brokers submitted the rare applications that came in, the “active” funding sources often turned down credits that would have previously been routine buys. It was hard to place blame on the funding source as their portfolio performance was trending downward as well -- their reduced appetite for credit was surely predictable, as witnessed in previous downturns.
Brokers have little ability to influence their funding sources’ credit underwriting, buy rates, or servicing behaviors. The negative impacts of the last downturn were magnified as collection protocols became very active, very aggressive, and very customer unfriendly. What was once a great customer of the broker’s vendor/dealer turned into a nameless collection account for the funding source. Whether a private label broker name was associated or not, these activities often resulted in a questioning call from the vendor/dealer often placing the broker in an awkward position.
Taking it one step further, the broker had to explain that the funding source is no longer a “funding source” and they unfortunately “can’t help” in any way. The strong funding partner that was the key to the broker and vendor/dealer success was gone. Today, capital is abundant and now is the time to learn from history and prepare for future downturns. It is time for brokers like you to take action and evaluate strategies that allow for greater control.
Surely continue to take advantage of the good fortunes of current credit windows, low delinquencies and unprecedented buy rates, but consider taking the step of diversifying your business from being solely a broker to becoming the lessor for some portion of your originations. This improves your likelihood for survival when the next economic downturn arrives.
The stepwise migration from broker to lessor offers funding diversification, helps capture and maintain strong vendor/dealer relationships, and can ensure proper lessee servicing standards. In other words… you have more control. The transition has many moving parts requiring time and commitment for a successful outcome. It may include holding a small portfolio on your balance sheet funded mainly with equity or obtaining debt coupled with equity to hold a larger percentage of your originations. Another strategy may involve holding your paper for a short period and then selling off portfolios in a warehouse arrangement. Maybe you maintain similar funding arrangements that you employ today, but you hold the residuals and service the paper yourself. In all scenarios, the concept of control is often linked to strategic funding arrangements with servicing at the lessor level. The quest for more control by becoming a lessor can take many different paths.
Preparing a business plan is the first step on the path to becoming a lessor. Like most business plans, start with the financial model and then support that model through sales and marketing strategies, underwriting criteria, and servicing options. Validation that the move to lessor will support your current business from profit and cash flow perspectives is vital. Employ a SWOT analysis to identify strengths, weaknesses, opportunities and threats. A full understanding of your strengths and weaknesses will allow you to determine which “lessor” path to pursue. A well thought out and prepared plan and timeline will not only act as a guide for your transitioning business, but identify where to focus your time and resources.
Upon determining the move from broker to lessor makes strategic sense, what are the common strengths among those lessors who have survived and thrived in economic downturns?
• Strong and Diversified Funding and Lending Relationships: Your funding and lending partners need to be just that, partners. Selecting a partner to build a relationship with takes time and devotion. Look beyond low rates and into sustainable business practices. Look for a strong track record with a history of success and representation by professionals who can be trusted and take a genuine interest in your business. Lessors who continually work on supporting strong working relationships with their equity or debt partners are often rewarded with loyalty during economic down cycles. It’s wise to diversify funding relationships. Funding relationships can include friends and family, local or regional banks, major lending institutions, or peer companies within the leasing industry.
• Niche Focus: Committing to a niche industry, geographic location, or equipment type will produce a more consistent flow of business and loyalty. By fully understanding your niche, you will appreciate the drivers behind your customer’s business. As a lessor, you have the opportunity to become a true partner—fully understanding the business and offering consulting advice. Speak their language. Know the challenges they face so you can help them overcome those hurdles. Be in a position to join them at trade shows and play a part in their annual meetings.
• Consistent Credit Underwriting: As a lessor, disciplined credit is a critical component for success. The ability to identify credits that perform to your projections is often the challenge. If you buy too aggressive, your delinquency will rise. If you buy too conservative, your vendor/dealer may choose another funding partner. By aligning your company with a strong and reputable credit scoring model, having a well-documented credit
policy, and strong credit team members, the framework is built to have a consistent, disciplined credit underwriting process. Having checks, audits, and reports in place to monitor decisions is imperative. A history of credit decisions and their respective performance results is usually one of the first items investors want to see. New lessors won’t have this on day one, but they do have history available from their broker funding sources that can be obtained to assist in establishing a credit policy and process. Some lessors have elected to outsource their credit process versus building it internally, the prevailing thought being ‘Why build the expertise when you can instantly gain access to expertise on a pay as you use arrangement through an outsourcing partner?’
• Strong Servicing and Operations: An established and “well-oiled” servicing backroom in an economic downturn can be invaluable to portfolio performance. Although it doesn’t completely insulate you from portfolio erosion, it’s comforting to know it’s not the cause. A customer centric servicing platform delivers a positive customer experience that can help build brand equity for your organization and your vendor/dealer. Vendors/dealers want quality customer service because their customers will view the relationship as synonymous with their dealer/vendor. This can be a differentiator between you and your competitor. Your bank or investors also want a strong servicing platform, and they want to know the assets that secure their borrowings are being serviced in a manner that minimizes risk. Often times, they want assurances that the servicing platform is fully functional and all policies and procedures are well documented with regular audits before they will even discuss a lending relationship. Building and assembling backroom servicing capability is not easy—it takes time and resources. Outsourcing your backroom servicing is a more common option for new lessors since it does not require a long assembly time or large capital outlay. It also brings immediate credibility to your vendors/dealers and investors. You still control all the servicing albeit through your servicing partner. The ability to couple your servicing partner’s financial strength and proven capabilities together with your history of origination success is viewed positively and alleviates most servicing concerns.
Timing a leap to lessor status during an up cycle will most likely improve the ease of transition. As a lessor holding all or part of your paper, you can readily predict future revenue and cash flow – with fewer ebbs and flows! It is common for lessors to build a balance sheet that can be more attractive to potential buyers in the future as well. Controlling your customers through a consistent, effective servicing platform can help build brand equity and retain relationships that previously slipped in downturns. There are many major leasing companies today that once started as brokers. The evolution from being a broker to becoming a lessor is possible and makes sense. Roll the clock forward—will you be a successful survivor and thrive in the next economic downturn or could you be destined to repeat history?