Commercial Loans Holding
Steady Throughout Area

Charles Crone, Regional President, Comerica Bank

By Kate Kellogg

Our last issue reported dismal forecasts of Michigan's economy for the next two years. Although Ann Arbor area businesses are faring better than most throughout the state, we wondered just how much confidence they have in the future. Commercial loan activity is one barometer of a community's economic health. We asked some area business lenders for a reading.

Their collective assessment: many businesses are in a fiscally conservative mode, exercising understandable caution in capital investment and spending. The bankers say loan activity is flat overall, but steady. Most of their clients are not undertaking expansion projects, but trying to maintain cash flow and modest growth. It's not that many local businesses are hurting; rather they are taking a wait-and-see approach for signs of economic recovery. It's the uncertainty of the economy that is keeping things quiet, particularly in commercial and residential real estate development.

Still, it's clear that downtown Ann Arbor, at least, is humming with new residential and mixeduse development. That's a sign that some growth is expected. The bankers point out that that Toyota's and Google's research centers should bring jobs and eventually increase demand for capital.

As for borrowers, they may find that 2007 is as good a time as any to approach a lender. Interest rates aren't bad and Washtenaw County has never been so well-endowed with banks. This competitive environment may result in some favorable pricing for business customers.

Charles Crone, Regional President, Comerica Bank
"Throughout my 30 years of providing banking and lending services in this community, I've seen several economic cycles run their course. Many financial summaries have crossed my desk. This is not the worst period we've been through, at least within my memory. The economy in the early 1980s and even 1991 was worse than the present.

Right now, our local pain is tied to the auto industry. Ultimately, about 15 percent of the jobs in this area are somehow tied to automotive manufacturing and sales. Until the market share of the traditional Big Three auto manufactures stabilizes, we'll continue to have pain.

I haven't seen a lot of change in loan activity over the past year-and-a-half. Businesses continue to get loans, but we're not seeing many companies expanding to the point of making large additions or major new equipment purchases. Of course, it depends on the industry. Some manufacturers and suppliers in non-automotive areas, such as aerospace, are going gangbusters. Auto suppliers who work with international 'transplants' seem to be doing pretty well. I've seen some service businesses adding employees, but those types of expansions don't necessarily require commercial loans. In general, capital expansions are well below that of other periods.

Of course, the slump in new and existing homes sales has caused building permits to fall radically. Developers and companies tied to construction and homes sales are having a rough time. Although residential mortgage loans are not a big part of our business, I can see that homes in suburbs all over southeast Michigan are not selling. That undoubtedly presents challenging situations for both owners and lenders.

Activity also is slow for commercial real estate developers and brokers, particularly for property in the city's industrial suburbs. On the other hand, we have several major condominium projects underway downtown and much construction activity on the U-M campus, plus road construction.

When the economy is not growing, banks, as well as individual businesses, search for ways to achieve growth and acquire market share. Financial institutions typically address the problem through price and structure. By structure, I mean banks may be willing to make riskier, structured loans. I haven't seen a whole lot of that recently and loan losses have not risen throughout the industry.

Another way to gain market share is through price competition. Over the past year-and-a-half, I've seen some pretty fierce competition on price. Our region is extremely well-banked and all those banks want growth. But they need to exercise prudence. Extremely competitive pricing can reach a point where it becomes destructive to the bank."

Lawrence Grace, Vice President of Commercial Lending, Bank of Ann Arbor
"We're seeing only isolated cases of business expansion. Most people are just trying to maintain what they have. I recently had lunch with a client who owns a historically well-run company. But their volume has been off 30 to 40 percent. This year, the company has the strongest backlog of the past two or three years. The client's objective is to get back where he was about two years ago. In general, borrowers are not thinking of buying or leasing new space. Those who had a decent year are just trying to get back to previous levels.

So in that sense, I'm encouraged, although I don't think business recovery is broad enough yet to declare a victory. Only a few companies are saying 'I need an extra million dollars for hiring and developing product lines.' Those are mainly tech companies, most backed by private investment. They're not going to banks, for the most part. As we watch them grow and hire, we can see that over time, these startups will have a positive impact on the whole area. But so far, it has not been strong enough to offset the effects of the auto industry's problems.

On the bright side, interest rates are starting to come down. The state's problem has partly been the Federal Reserve's monetary policy. Over the past two or three years, national rates were increased to slow down the economy and prevent inflation. That's not what Michigan needed.

Commercial real estate is slow and new office construction is dead. There has been some retail construction---new shopping centers---and some apartments changing hands. But we're not seeing anywhere near the level of activity we saw two to three years ago.

Although residential real estate is way down from four or five years ago, we've been pleasantly surprised about residential mortgage activity. That area has been fairly good for us recently. But most of that business has been in sales of existing homes, as opposed to new construction.

How do I see banks responding to the slowdown? I'm not sure the underwriting standards change so much as the appetite for particular industries. I think many banks look at concentrations. For example, if residential real estate or auto manufacturing is slow, a bank may consider whether they have too much business in those areas. They may try to increase in some sectors and do less in others. It varies by institution. But I doubt that anyone in this region is aggressively seeking land development loans right now."

Walter Byers, President, Mercantile Bank of Michigan
"Future growth-type loan requests have really declined over the past couple of years. However, the first couple of weeks of this year looked better than this time a year ago. I'm optimistic, but it's very guarded optimism. I've read the predictions of a turnaround but it may be 2008 before we see much expansion.

I do see 2007 as stronger overall than 2006 and I'm hoping to see some new loan growth opportunities. We anticipate that some of the excitement surrounding Google's and Toyota's new facilities will spur some growth throughout the area. Their presence could bring in other businesses and provide new business opportunities for existing companies. None of that will likely be in old-school manufacturing areas. Rather, I expect to see service-related companies gaining ground. I believe good companies always seem to find a way to survive these rough times and prosper when the recovery comes.

From the lender's perspective, we realize that Washtenaw County has many banks competing for business. Even an upturn in the economy won't give any single institution a large influx of new loan growth.

Commercial land development and residential growth opportunities both look pretty slow. There is too much supply out there for any new developers to come on line. Right now is the wrong time of year to look at commercial real estate. We're hoping for a turnaround in late spring but there aren't yet any signs that this year will be much different than 2006.

Interest rates seem to be pretty steady. For residential mortgages, they're in the low sixes. Rates aren't the issue right now. For the homeowner, it's job security. For the business owner, it's overall confidence, or lack of it, in the local economy. That's what drives growth.

Of course, banks are businesses too. Our income consists of the rates and fees we collect. During rough economic periods, banks tend to analyze risks more carefully. We have that responsibility to our stockholders. Banks don't want to walk away from customers. We try to act as consultants and encourage customers to communicate what they will do if a downturn occurs in their businesses. We're not in the business of taking collateral back or becoming an equity partner. We like borrowers to identify a secondary source of loan repayment so they can sustain the payment cycle. I think customers really appreciate knowing their bank is working on their behalf."

Richard Lupkes, Community Bank President, Republic Bank
"Our focus is primarily on real estate. So far, 2007 looks similar to 2006 in that there is not a huge amount of real estate development going on. We are seeing some pockets of activity downtown, including some successful condo projects. Liberty Lofts, [a redevelopment at the site of the old Eaton plant], and 322 Lofts, between Division and Fifth Streets, already have sold enough units to pay off their loans. New retail has done fairly well too.

In general, the closer you get to Ann Arbor, the more building activity you see. Scio, Pittsfield, and Ypsilanti Townships are still doing pretty well. But many builders elsewhere are struggling to reduce overhead---more so than in 2004 and 2005. They're just trying to make it through this period until sales volumes and traffic pick up again.

Lately, we've seen more small business commercial and industrial (C&I) type loans and less in the way of real estate development activity. While there's not a high frequency of large loan requests, we're seeing a fair number of requests for permanent working capital to purchase a building or an existing business or to increase a line of credit.

I think that banks tend to be a bit more cautious in such an economic environment. We want to make sure we're working with experienced customers who have been through times like these and have a certain level of liquidity to carry them through. We just don't know how long this down period will last. In some cases, developers' interest reserves aren't sufficient because of the length of time it takes to sell condos. We need to make sure they have the wherewithal to make payments if interest reserves run out. We try to avoid situations where the customer's only option is to borrow more money.

We're still optimistic about this area's future. We know we need to be especially responsive to customers at this time and assure them that we're all in this together---and that we'll be here for them when things pick up. This is where relationship banking comes into play."