No Time Like The Present

Posted on August 30, 2021 Published by

We have all heard friends, family, and co-workers encourage us with comments like, “What are you waiting for?” or “There is no time like the present,” or for the “learned” among us, “Carpe diem!” (seize the moment). These exhortations can certainly appeal to our impatient nature and desire for instant gratification. They are particularly useful when we look to justify something we selfishly wanted to do anyway. But what about an action that may be uncomfortable or have (at least superficially) negative consequences?

No Time Like The Present

At this point on the calendar, most institutions should have obtained year-end financial statements for 2020. Also, minimally, for Q1 of 2021. In all likelihood, the financial performance was well behind previous years’ financial performance. That is, absent government assistance in the form of grants, loans of other stimulus/relief. That situation has the potential to leave lending and credit professionals in a risk rating dilemma. A cash flow punctuated by “one-time” impacts or “extraordinary events” – whether positive or negative – may be encouraging decision makers to ignore or overlook the true underlying health of a borrower and delay a downgrade to watch or, more importantly, to substandard.

By definition, a substandard loan is “inadequately protected by the current sound worth and paying capacity of the obligor or the collateral pledged. Assets so classified must have a well-defined weakness, or weaknesses, that jeopardize the liquidation of the debt.” Additionally, the credit is “either not complying or had previously not complied with its contractual terms and has other credit weaknesses which may make payment default or principal exposure likely but not yet certain.” From these definitions, the credit need not currently be in a past due status. Or not even been past due historically. Based upon analysis by the lending institution, they believe that full collection of principal and interest in accordance with the original loan terms is in question. It is important to note that these definitions preclude the approach that “things will be better next year.”

Don’t Delay

Not only is this generally not a successful strategy, but is not a prudent reflection of credit risk. Rather than delay a downgrade to substandard awaiting a payment default, a proactive approach to risk rating is recommended. By the time a borrower gets to the point of payment default, cash flow & financial condition has likely deteriorated. At this point, few options remain for either the borrower or the lender. Recognizing and acknowledging the true financial condition of the borrower in the risk rating allows both parties to address the issues and work proactively. They can improve credit structure and/or exit the relationship to avoid credit losses.

Failure to be clear-eyed in your institution’s risk rating analysis to “call it what it is” can also result in criticism from regulatory agencies for not maintaining accurate risk ratings. After all, if it walks like a duck and quacks like a duck, it is most likely a duck.

Need Help?

So how can Enlighten Financial help? The Enlighten Financial team can work with your lending and credit professionals to structure an independent assessment of your portfolio risk ratings. This can be accomplished on either a comprehensive or a “targeted” basis such as by industry, property type, collateral type, etc. The adage “better late than never” most certainly does not apply when addressing commercial risk. The appropriate response, in Italian, would be Andiamo, or “Let’s go, hurry up!” We can help you do just that.


Richard Rudolph is Senior Consultant at Enlighten Financial, a specialized consulting firm that focuses on loan review and risk management services to community banks and credit unions. Enlighten Financial has made it our business to shed light on the complex financial landscape. We lead clients in the right direction. We work with financial institutions and other providers to mitigate risk. To talk to Rick directly, please call: 920.445.8133.

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