A growing divide in commercial lending practices
- 23 September 2024
Non-bank lenders are reshaping Australia’s commercial lending landscape, offering flexibility and innovation amid economic challenges when others can’t
AUSTRALIA’S COMMERCIAL lending landscape is experiencing a significant transformation driven by volatile and evolving economic conditions. As businesses adapt to fluctuating market dynamics, the shift towards non-bank and private lending sectors is becoming increasingly prominent.
One reason is the nimbleness of non-banks – they are well-honed racing yachts, sensitive to the slightest change in economic winds. Banks are heavy cargo ships – slow to turn as they mechanically hew to a course guided mainly by major market trends.
Non-bank lenders offer flexibility and a nuanced approach to credit assessment, catering to businesses that require swift and adaptable funding solutions. In many ways, it isn’t surprising that choppy conditions play more to the strengths of non-banks than their mainstream rivals.
Economic conditions and the impact on lending
Recent economic conditions have played a crucial role in reshaping commercial lending practices at the non-major banks.
While businesses feel there may be some light at the end of the tunnel in terms of inflationary trends, reduced spending and persistently weak consumer sentiment still pose challenges. This makes access to flexible and quick financing critical for survival and expansion.
“During the pandemic, we saw an explosion of commercial finance activity thanks to an increase in government assistance and accelerated retail activity from consumers stuck at home,” says Jas Fazlic, head of commercial at Finsure.
This spike in activity led to a notable increase in mortgage brokers entering the commercial lending space. “We saw a surge in the number of mortgage brokers writing commercial loans, going from 4,539 in September 2020 to 6,118 in September 2022 – an increase of nearly 35% across a two-year period,” Fazlic says, citing the MFAA’s Industry Intelligence Service 16th Edition report.
However, the landscape has begun to shift as economic conditions evolve.
“The current commercial landscape in Australia continues to feel the lasting impacts from the COVID-19 pandemic, which includes a shift in consumer and worker behaviour, and persistent inflation, which led to a historically sharp rise in interest rates which can cause significant challenges for commercial borrowers,” says Cory Bannister, chief lending officer at La Trobe Financial.
Bannister highlights how the steep rate hikes have affected commercial borrowers. He explains that many have faced technical loan defaults due to ongoing review clauses and covenants attached to their loans, which are common features of commercial loans provided by traditional banks.
“As a result, brokers and the private credit sector have been called upon to play a significant role in assisting commercial borrowers to navigate a challenging path,” says Bannister.
The rise of non-bank lending
This situation has created an opportunity for non-bank lenders to step in where traditional banks may be hesitant, providing crucial support to businesses navigating these uncertain times.
“Disruption breeds innovation. In particular, private lending is well placed to support businesses seeking growth with fast, flexible, short-term funding solutions to capitalise on time-sensitive opportunities,” says Aquamore head of distribution Matthew Porch.
The growth of non-bank lending in the commercial sector has been steadily increasing, driven by various factors, including regulatory pressures on traditional banks.
“Whilst non-bank lending to SMEs has had a healthy presence in Australia, the market has gradually grown and has a respectable portion of the commercial market,” says Dean Koutsoumidis, managing director and founder of Equity-One.
Koutsoumidis explains that this shift is partly due to the increased regulatory pressures on banks. He elaborates on the reasons behind this trend: “We are seeing bank lending be increasingly difficult due to the strenuous regulations imposed by their regulating authorities, not only from a credit perspective but from the measures around capital adequacy, designed to protect the banks and ultimately [their] customers. This has led to an increase in non-bank commercial activity.”
“We expect the market divide to become more apparent, with the major banks continuing to focus on ‘vanilla’ residential borrowers, with non-banks and private lenders supporting an increasing volume of prime or near prime borrowers” – Matthew Porch, AQUAMORE
Emerging trends shaping the market
Over the next five years, several key trends are expected to shape the commercial lending market in Australia. One notable trend is the increasing market divide, where major banks continue to focus on residential borrowers, leaving non-bank and private lenders to cater to prime and near prime commercial borrowers.
“We expect that the lion’s share of SME and commercial debt will be fulfilled by non-bank and private lenders as Australian regulators continue to bolster the capital adequacy requirements,” Porch explains.
This shift is further fuelled by banks’ preference for the strong residential property market, which offers higher net interest margins on home loans. Consequently, non-bank lenders are likely to expand further into the commercial lending space, providing tailored solutions to meet diverse business needs.
“We expect the market divide to become more apparent, with the major banks continuing to focus on ‘vanilla’ residential borrowers, with non-banks and private lenders supporting an increasing volume of prime or near prime borrowers,” Porch says.
Fazlic highlights additional trends shaping the market: “Flexibility in lending policies can significantly influence the commercial lending market by making it more responsive to the needs of diverse businesses.”
He also emphasises the growing role of technology. “The development of advanced technology such as artificial intelligence, machine learning and blockchain will transform commercial lending in several ways,” he says.
Bannister outlines four key emerging trends to watch:
1. The continued rise of private credit as a genuine alternative to bank finance
2. Increased integration of technology into lending processes
3. The growing emphasis on sustainable and environmentally friendly projects
4. Suburban in-fill demand creating opportunities for commercial ‘hubs’ in suburban areas
Competition leads to innovation, other advantages
Increasing competition in the commercial lending space is expected to bring about positive changes for borrowers.
Koutsoumidis emphasises the importance of this trend: “In short, the answer is competition,” he says. “This is a great time for commercial borrowers. Recently, we have seen some respectable private lenders being purchased by large participants with the firepower to increase their foothold in the private credit space.”
He draws parallels with international markets, suggesting that Australia may follow a similar path. “This emerging trend has been evident in the US and UK, with signs that this may be the path for Australia too. If that is the case, it’s a good thing. Competition brings better outcomes for borrowers.”
However, Koutsoumidis also reminds us that the lending landscape is cyclical: “We mustn’t forget, though, that banks go through their own cycles too. In different parts of economic cycles, banks become more liberal with their lending.”
“This is a great time for commercial borrowers. Recently, we have seen some respectable private lenders being purchased by large participants with the firepower to increase their foothold in the private credit space” – Dean Koutsoumidis, EQUITY-ONE
Non-bank lenders attract commercial borrowers with their competitive advantages, including faster turnaround times, flexible loan terms and bespoke financing solutions. These attributes are particularly appealing for businesses seeking large-ticket funding options for growth and expansion.
“Following [our] recent loan increase to $7.5 million, brokers are increasingly approaching Aquamore for bespoke short-term commercial finance facilities,” says Porch.
The ability to offer customised solutions that traditional banks might not provide is a significant draw for businesses looking to capitalise on unique opportunities quickly.
Bannister elaborates on the advantages of non-bank financial institutions (NBFIs). He says, “Compared to traditional banks, NBFIs typically provide more flexible and tailored terms, which can be crucial for businesses needing access to capital.”
He further explains that NBFIs offer specialised lending products tailored to niche markets or specific business needs, and flexible credit requirements. This approach makes it easier for businesses with unique histories and requirements to obtain suitable financing.
“In a large number of cases, commercial loans set with major lenders contain regular and ongoing review clauses and covenants, which mean that each year, and in some cases more regularly, key commercial loan ratios are reviewed for compliance,” says Bannister.
These reviews can include revaluations of property to test LVR thresholds, reviews of interest cover ratios (ICRs), and assessments of borrowers’ debt-to-income positions. Bannister notes that these ‘tests’ are likely to come under pressure in the current economic environment, potentially driving commercial borrowers to seek alternatives like La Trobe Financial.
Koutsoumidis highlights the role of non-bank lenders in providing alternative solutions for borrowers. “The reality for non-bank lenders is that they are the second phone call after a bank says no. The good news here is that borrowers have a pecking order of options to consider.”
He emphasises the transitional nature of non-bank lending, explaining that it often serves as a bridge for borrowers.
“Equity-One tries to be a dependable solution for bank-quality borrowers who may not be bank-ready. The reality is that once borrowers have their ducks in a row, they will transition back to a bank for a longer-term credit arrangement.”
Koutsoumidis also points out the simplified process and personal touch that non-bank lenders offer. “Non-bank lenders, like Equity-One, are simpler to deal with,” he says. “There is a very intentionally ‘old-fashioned’ way we relate to our brokers and borrowers. You can call us anytime and talk to someone making a credit decision straight away. Responses and terms are emailed promptly, and the sense that things get done quickly is a very important feature of where non-bank lenders are still relevant today.”
Underutilised opportunities in commercial lending
By closely analysing clients’ financial statements and collaborating with accountants, brokers can uncover hidden opportunities for refinancing, debt consolidation and other commercial finance needs.
“A lender such as Aquamore, with a judgemental credit-based approach, considers an opportunity holistically,” says Porch. “This is often beneficial for equity-rich, cash-poor businesses seeking capital to seize a time-sensitive opportunity.”
This type of approach can help businesses leverage their assets effectively, driving growth and innovation in the commercial sector.
Fazlic points out another opportunity: “For quite some time, broadening service offerings has been a strategic focus within the broking industry. Mortgage brokers have been encouraged to expand their portfolios to provide more comprehensive support to their clients and to increase their revenue streams.”
Bannister highlights how rising interest rates can create opportunities for brokers and non-bank lenders. He explains that the current environment can cause headaches for commercial borrowers, particularly those with ongoing review clauses and covenants attached to their loans.
“Whilst this is a headwind for borrowers, it can be a tailwind for brokers as customers are required to seek alternatives to major banks to finance their commercial property,” says Bannister.
The integration of technology into commercial lending processes is also expected to bring about significant changes in the industry. Koutsoumidis shares his insights on this trend: “The emergence of digitisation and AI is an interesting space, where I believe it will undoubtedly impact on how business is done. Whether it’s in relation to credit decisions or the administrative-bank end of the lender’s operations, I expect there to be exciting enhancements in this space.”
He emphasises that while technological advancements may raise concerns for some, they can ultimately enhance the human aspect of lending. “Whilst this naturally causes concern for some, I feel it enables people to focus on the good stuff, which is relationships with the people in the organisation and customers. That’s what matters.”
“Without putting too fine a point on it, without alternative options provided by non-banks, many commercial borrowers would be frozen out of the market” – Cory Bannister, LA TROBE FINANCIAL
Contribution to economic growth and stability
Non-bank commercial lending plays a vital role in supporting broader economic growth and stability in Australia. By injecting capital into SMEs and start-ups, these lenders contribute to the vitality and resilience of the economy.
“Having a well-capitalised system to support these businesses will continue to help facilitate a strong economy,” says Porch.
This support is crucial for fostering a dynamic business environment, enabling companies to innovate and expand, thus driving overall economic progress. This is especially true as the short-term outlook remains tough, with persistent sticky inflation and geopolitical issues. A recent Fifth Quadrant SME Sentiment Tracker shows 56% of respondents expect conditions in Australia to worsen and 49% expect a decline globally. The same survey shows that 65% of businesses are still passing on at least some of their higher costs to consumers, indicating that inflation still has a way to run yet.
Bannister identifies three key non-bank drivers in the commercial lending landscape that contribute to Australia’s economic health: access to capital; support for SMEs; and filling market gaps for niche and underserved borrowers.
“Without putting too fine a point on it, without alternative options provided by non-banks, many commercial borrowers would be frozen out of the market,” says Bannister.
Tailoring products to client needs
Customisation is a hallmark of non-bank lending. Lenders like Aquamore structure their deals to meet the specific needs of different clients, offering a range of product types based on assessment criteria, documentation requirements and loan tenure.
“Aquamore’s deal structure is fully drawn in advance and split into five different product types,” says Porch. “This approach allows all sectors of the market to be served with aligned solutions.”
Such tailored solutions are particularly attractive to SMEs looking to purchase commercial property as part of their self-managed super fund strategy, aligning with their long-term financial goals.
Bannister emphasises La Trobe Financial’s broad product suite and ability to tailor each product to a borrower’s specific requirements. He highlights its specialised commercial lending products, such as Lease Doc, Residual Stock and Development Finance loans.
“We find an increasing number of brokers turning to us for assistance for ‘set and forget’ commercial property loans, particularly as our maximum loan size – of up to $25 million – and no annual reviews on loans means we are one of a few non-bank lenders able to stretch to assist blue-chip commercial property owners,” says Bannister.
Koutsoumidis explains Equity-One’s approach to product tailoring: “We have refined our loan product to suit most of the enquiry we have received over our 30 years’ experience. Borrowers need an option when their bank cannot accommodate their borrowing requirements, or they cannot do it in a timely manner.”
Emphasising the simplicity and flexibility of the non-bank’s offerings, he says, “We keep things ‘deliberately simple’. Our loans are interest-only payments for fixed terms of a year or two. They can be repaid anytime with no break costs and no clawbacks to brokers. We need to be quick and reliable. This is what we try to focus on.”
Supporting commercial borrowers
Mortgage brokers have a pivotal role in supporting commercial borrowers in the current market. By broadening their scope and viewing themselves as finance brokers, they can better address the comprehensive needs of their clients.
“It’s also wise to be confident in a lender, based on their track record, market reputation and funding lines,” advises Porch.
Understanding the full financial picture of clients and collaborating with commercial finance specialists can help brokers identify and capitalise on all potential opportunities, enhancing their service offerings and boosting client satisfaction.
“The first step into the industry is by far the hardest. There are a lot of unknowns, which means finding a trusted aggregator partner is critical” – Jas Fazlic, FINSURE
Fazlic adds, “Aggregator customer relationship management systems are essential tools for brokers in today’s complex and diversified financial landscape.” He emphasises the importance of technology, compliance support and ongoing education in empowering brokers to meet their clients’ needs effectively.
Koutsoumidis highlights the value that brokers bring to the commercial lending process.
“We see brokers add a lot of value to their customers, particularly in the commercial space,” he says. “Having a case of reliable, good lenders on your short-dial list is important. Once you have a small number of good lenders, a broker will be able to service most of the borrower’s expectations.”
To be sure, borrowers in the current market face no shortage of challenges, including serviceability issues, the increased cost of living and the withdrawal of some lending products. But brokers who use the suite of tools available at non-banks will nearly always be able to find a solution to a borrower’s needs, whether commercial or otherwise.
For those new to commercial broking, finding the right support is crucial. Fazlic states, “As any commercial broker will tell you, the first step into the industry is by far the hardest. There are a lot of unknowns, which means finding a trusted aggregator partner is critical. It can often mean the difference between success and failure.”
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