I keep hearing there is plenty of capital available in the United States today — it just happens to be on the sidelines. Theories abound as to why the moneychangers are holding off, but mortgages and their exotic accoutrements have certainly pushed the proverbial cart to the edge of the canyon. Of course, our rather indulgent mix of secret sauces in the vehicle finance soup has created its own legacy, so I won’t throw stones from my glass house.
One trait all capital sources share is an intense — and understandable — fear of loss. This fear has brought collections and return on investment back to the fore. Lewis Reekes, a former executive at the old First National Bank of Atlanta, said it best: “We can make any loan because we can collect it.”
Finance companies and dealerships alike must create a strategic imperative to manage credit and repayment habits. There are processes that showcase the most effective and efficient techniques for managing collections and broadening an organization’s asset base.
We already know an individual’s credit score is partially predicated on his or her habits. Understanding that fact led us pioneers in the payment assurance game to create devices designed to change bad habits — specifically, late payments or no payments at all. A decade later, we’ve grown into an industry, now represented by the Payment Assurance Technology Association, of which this writer is a founding member.
Countless innovations, options and systems have been introduced over the years, and at least one of them makes the nonprime paper perform as if it were in the top tiers of credit ranges. Many lien holders are using "risk-based" pricing to control their spreads, with some success. Even a few credit unions have joined in the C- and D-level lending. However, their pricing models — for the most part — fail to consider the benefits of managing and mitigating the risk with payment assurance systems. Those who do use them still have the collections headaches and charge offs. They just attempt to control losses with higher rates. I must ask, how has that worked so far?
Higher returns, broader spreads
My friends at commercial banks and finance companies tell me they would love to have a 4 percent to 9 percent spread. In fact, some of them say if they had a 4 percent guarantee, they would finance anybody. In the many consultations I’ve had with credit unions, I have found several operating at a 3 percent spread or lower.
In today’s fiercely competitive market, we must control all available opportunities. The number of “ups” is the first value in the equations that tell dealers how effective their closing strategies are. Credit unions grapple with the same issue, whether they operate on a national or regional scale. Statutes control where they can go and whom they can enroll, but people are people and credit unions need members. So what’s the problem? Well, actually, there are two:
1. Credit control and fear of debt recovery attracts the closest scrutiny. Credit bureaus and other reporting agencies have worthiness models and the various finance factors also have set their proprietary models. When you combine the two, you wind up with a marketplace controlled by databases.
2. People, not databases, make payments. That puts the pressure on all of us to manage and sell better — and smarter.
So the strategic imperative is to improve cash flow while reducing the cost of debt recovery. Simple, right? The president of a finance company advised me last year that the payment assurance system he used increased his contractual currency by 5 percent, which he said increased his internal rate of return between 18 and 22 percent. As my granddaddy, Mr. Archie, would say, “Now, boy, that ain’t hay.”
The beleaguered credit managers at today’s lien holders walk a tightrope stretched between the needs and wants of their members and the expectations of their bosses and shareholders. They must deal with the criteria handed down by their risk management experts, which is full of data and static pool information.
That data, coupled with the expectations of improved efficiency and computer systems, should lead to a broadening of acceptable credit. But so far this has only tended to tighten the scoring methods and, all the while, delinquencies mount when conventional collection methods continue to be used.
Let us equip those credit managers with a practical strategy to immediately impact the bottom line and mitigate the risk. We talk about formulating effective credit policies and reducing exposure to bad debt through technology, both of which we fondly refer to in our so-called underwriting guidelines. But those guidelines are designed to control the risk up front and from afar. Sometimes they work as planned, sometimes not.
Credit unions are learning what used-car dealers figured out long ago, and finance companies and franchise dealers not long after: When used as a credit policy add-on, payment assurance systems can reduce the incidence of bad debts and help to alleviate the heavy costs associated with debt recovery. That means an increase in the cash flow of any lien holder carrying paper, be they credit unions, dealers, finance companies or commercial banks. The result? More accounts, bigger gross profits, less risk and higher margins. When you finance more cars with less collection effort, everyone wins.
Can your organization achieve peak performance with your current credit management and policy? Have you made it a strategic imperative to improve your collections in 2009? If not, I suggest you ask, "Why not?"
Ashley D. Herndon is a founding partner of Irvine, Calif.-basedpayment assurance technology provider Crossbow Group Inc. He can be reached at [email protected].