ByNancy O. Andrews
How are Community Development Financial Institutions (CDFIs) faring in light of the economic crisis? What steps are CDFIs taking to respond? To answer these questions and to learn from our CDFI peers, we conducted a series of 11 interviews with leading CDFIs across the country in the fall of 2009. The bottom line: CDFIs can survive this economic crisis and deepen their mission, despite the extraordinary difficulty of the current period. Here’s a brief summary of the findings.
Heightened Risk—All CDFIs reported heightened risk in their portfolios, particularly in housing loans. Eight of the 10 CDFIs with sizable housing portfolios saw homeownership projects as a primary source of increased risk; in particular, unsubsidized homeownership loans were experiencing the greatest weakness. Heightened risk was evident in increased delinquency rates, or an increase in loan extensions, or increases in loan loss reserves, and occasionally in all three. The second most frequent cause of growing risk was dependency on fundraising or public subsidy.
Need for Patience—Most CDFIs (nine of 11) called for greater patience as borrowers scrambled to put resources together to make deals work. “Borrowers are going multiple rounds to get financing and subsidy, at the state and city level.” One CDFI reported extending 80 percent of its housing loans (up from 50 percent in more normal times).
Serious Liquidity Problems—Liquidity shortages were felt broadly, but large CDFIs were particularly affected. Respondents also noted the need for extensions, the lack of new capital coming into the field and concern about capital renewals. Some indicated that the liquidity problems were being offset by reduced demand.
Housing Loans Are Hardest Hit—Most CDFI leaders reported that increased risk and reduced demand came mainly from the housing portion of their portfolios, particularly from for-sale housing. The reasons given for slower volume included: housing developers remaining on the sidelines, waiting for property values to bottom out; housing developers are financially weaker, because they are paying the carrying costs of unfinished projects; lack of capital supply is forcing demand to contract; lack of public subsidy to fund new projects; and homeowners remaining on the sidelines because of job uncertainty. Generally, community facilities seemed to be performing well, particularly if the financing was long-term and for a facility already in service.
CDFIs are managing heightened risk through a combination of extra vigilance toward late payments, bulking up loss reserves and, in a few cases, performing stress tests on portfolios and corporate budgets. Many CDFIs are scrutinizing deals more closely, along with asset valuations, and occasionally, reappraisals of portfolio collateral. Most reported higher scrutiny of transactions at the front end.
The most common risk management strategy is paying greater attention to late pay-
ments, including making calls to customers within days of the due date, and escalating if payments are not received. CDFIs are also paying extra attention to borrowers’ financial condition and scrubbing of asset valuation, performing stress tests on borrower projections and looking at levels of borrower liquidity to determine size of loans, as well as imposing tighter terms and conditions.
To get through this crisis, the field will need to pull together more closely than in the past. Many called for new ways of communicating and sharing, and for creating united fronts endorsing common positions on critical issues, especially capital requirements. The watchwords for the next several years will be: learn, share and help. Navigating the worst economy in a century will require members to take a number of proactive steps:
Batten Down the Hatches—Although some CDFIs are reporting no dramatic increases in delinquency rates, they are anticipating problems and are rescoring their portfolios, increasing their risk reserves and scrutinizing new requests. Now is the time to begin stress-testing at the organizational level. How much of a revenue decrease can the organization withstand? What happens if 10 percent of the organization’s portfolio is nonperforming? The goal is to identify potential problems and to develop responses now.
Workouts and Foreclosures—For many CDFIs, loan workouts are rare, and few organizations can afford the specialized skills of asset managers to handle good workouts and restructuring. However, the ability to be patient and responsive to borrower requests has often been the main ingredient for a successful workout, and with conditions today different than in recent past, all CDFI lending staff can learn the skills of a workout situation. Some of the aspects to consider is whether to exercise speedy and decisive action or patience, as well as how to best communicate with the customer. In any event, it is worth considering whether an industry-wide response is warranted.
The Network Solution: Sharing Our Way through This—CDFIs form a national network dedicated to a common vision of community development and poverty alleviation. On a daily basis, however, the field operates separately, with little sharing of services, operations, or expertise across organizations. The result is increased overhead and inefficiency. The field’s survival and future health depends on greater efficiency and cost savings. CDFI leaders identified five pressing needs for the future:
1) Equity support. This could take the form of equity grants, loan loss reserve grants, possibly even equity equivalent loans.
2) Liquidity relief. Although the need is for additional liquidity, many stated that the price must be reasonable so that CDFIs could earn spread income. The strategy for this may well be joint advocacy for additional resources for the CDFI Fund, for renewed capital commitments from banking partners and foundations or increased capital commitments through the current regulatory reform discussions.
3) Workout/troubled asset relief. Several organizations asked for a centralized workout service that they could call upon in dealing with the troubled loans in their portfolios. This could take the form of a “bad bank” to purchase troubled loans and recapitalize CDFIs. A second approach would be to provide expertise that CDFIs could call upon for help with their most troubled loans.
4) A forum for self-help. Organizations called for additional opportunities to learn from one another, increased communication and sharing of best practices, resources, and information.
5) Policies for new resources. Central to CDFI-specific policy work are the CDFI Fund appropriations debate, funding the Capital Magnet Fund—included with an $80 million allocation in President Obama’s budget—and funding of the New Markets Tax Credit program. In addition, the importance of the upcoming Community Reinvestment Act debate cannot be overstated.