Not just houses under water in the market


    There is a major problem behind the lack of ready credit for business today — “the value of all their collateral,” according to Art Johnson, chairman and CEO of United Bank in Grand Rapids.

    “Virtually every asset on the balance sheet of all businesses, regardless of size, is substantially diminished (in value) from where it would have been three, four, five years ago,” he added.

    Johnson, who was on a Grand Valley State University panel discussion last week regarding the financial crisis and the subsequent proposed regulatory reform in Washington, noted that even as home values nationwide were dropping precipitously during the recession — as much as 33 percent since 2006 — commercial real estate values continued to rise for much of that time.

    Now, of course, commercial property values also have fallen. Personal property values have fallen, as well, especially in regard to industrial equipment, since so many plants in Michigan have closed in the last 10 years.

    Johnson told the Business Journal after the panel discussion that some businesses that are “performing well” now may still encounter a problem obtaining loans for expansion or purchasing materials to fill new orders. That’s because, while a company may successfully be making payments on an existing loan from a few years ago, the value of the collateral on that loan may have dropped by 35 or 40 percent or more — “and now they’re under water on that,” owing more than the collateral is worth.

    That may not seem to be a problem for the company that borrowed the money, but it is a problem for a regulated bank that has to keep strict tabs on its balance sheet, including all of its asset values. Johnson said that if regulators weren’t putting so much pressure on banks now, banks might be more able and willing to take a chance with business customers that need loans.

    For some companies, however, credit worthiness has eroded, in general.

    “Their profitability is way down, their cash flow is way down, their business is way down. There’s other factors, as well, besides the collateral” value, said Johnson.

    “(If) somebody wants to come in and borrow to meet payroll next Friday, they’re going to be very distressed, but that’s probably not a good loan,” said Johnson.

    Bankers see recovery coming, although perhaps not in force until after 2010. Johnson said the banking industry is “suspecting” that for the past few months “the market in most commercial real estate has stabilized, and that’s a good sign.”

    However, he said it is much harder to generalize about commercial real estate than residential. Commercial properties range from multi-family housing to retail, office, medical specialties, manufacturing and warehousing — “and they don’t all act precisely the same.”

    In office, retail and multi-family residential, vacancy rates help determine the value, said Johnson, but he noted there are many other factors that can also determine value in commercial real estate. For example, he said, a factory may have extensive power supply and heavy-duty architecture to accommodate heavy industry, but if that facility is turned into warehouse space, “there’s a lot that’s been built into that building that isn’t going to be used anymore.” That means the collateral value goes down.

    The situation is different in Michigan, he said, compared to the rest of the country. While Michigan did not have as big a real estate bubble to burst as other states did, it has had a much longer economic decline. “You have to remember that in Michigan, we’re now in our 10th successive year of job loss,” said Johnson.

    “If you had to boil it down to one important thing, the one thing would be jobs, because everything flows from people having disposable income and money to spend. All things flow from people having jobs,” he said.

    Michigan was losing jobs “back when the fed was still raising interest rates — back in the middle of the last decade,” he said. At that time, the fed was “trying to slow down the economy, but ours was already slowing.” For Michigan, he said, the current situation is “much more of a cumulative effect of job loss and our economy.”

    And now, said Johnson, “ladled on” to the current challenges to FDIC-regulated banks like United Bank is more government regulation, some of which is contained in the Senate banking committee’s proposed legislation.

    “We have to be very careful,” he said, in speaking for regulated banks, because “regulators are looking for problems.” Although he maintains United Bank has come through the recession in better shape than many other banks, he said, “You don’t really have to look very far to find some loans that are experiencing some distress.”

    “It is very natural for bank regulators to become more conservative during an economic slowdown, particularly one that has caused as much distress in households, businesses and banks as this one,” said Johnson. “But as economic activity begins to pick up and a recovery begins to gain momentum, access to credit to fuel job growth will become increasingly necessary for economic recovery to be sustained.”

    The banking industry regulatory response “needs to recognize that prudent lending decisions should be forward-looking and take into consideration an improving economic environment, not just backward-looking into the recession that has preceded the recovery,” said Johnson.

    “To what extent will that momentum (of a recovery) be tempered by the availability of credit?” he asked, rhetorically. “And to what extend will that availability of credit be tempered by regulatory influence? It’s kind of an unknown right now,” he said.

    At the GVSU event, Johnson emphasized some good signs for the economy. Although total mortgage lending is down, “what disappeared were the risky loans,” he said, and 2009 was the second best year ever for traditional mortgages, spurred by a combination of very low interest rates, lower housing prices and the government stimulus program for first-time home buyers.

    On April 7, the American Bankers Association announced that consumer loan delinquencies showed a broad-based decline in the fourth quarter of 2009.

    “Clearly, consumers are shoring up their finances and banks are putting losses behind them. Overall, there is a prudent approach to credit,” said ABA Chief Economist James Chessen.

    As for bank failures, they will continue through 2010, but Johnson predicted that failures will decline after 2010.

    In 2009, the FDIC closed 140 banks across the country. In the first quarter of 2010, 41 were shut down. However, Johnson displayed a chart that gave another perspective on the situation. In the early 1990s, there were about 1,600 banks deemed to be in trouble by government regulators. In the fourth quarter of 2009, the official tally of troubled banks was 702.

    In the early 1990s, “the number of troubled banks was more than twice what it is today, and we recovered from that,” he said.

    Johnson told the Business Journal that he expects the number of troubled banks to diminish as the economy starts to improve. But, he said, that improvement is “going to be kind of a slow process but a sustainable one. I’d rather see a sustainable recovery than one that burns itself out too early.”

    As for Michigan compared to the rest of the country, Johnson said the traditional banks here are “really in remarkable shape going into this crisis,” although, he said, the “cumulative effect of job loss here as well as the more general economy … have taken its toll.”

    His personal opinion is that “Michigan is going to tend to recover a little bit slower than the economy in general, so I think that Michigan banks, getting back to normal, will also be a little bit slower.”

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