ADVANCEMENTS IN MANAGING RISK – A Key Element for Every Finance Company
Risk management is a central pillar for all leasing companies that want to stay in business long term. However, there exists a natural tendency to adopt a narrow field of vision when assessing credit risk: What is the probability of a customer failing to honor their contract; how vulnerable is a particular customer or industry to the economic cycle and/ or macroeconomic shocks; can equipment be recovered if there is a default; and what would be the ultimate net loss to the company? Industry metrics have become increasingly sophisticated in an effort to efficiently provide answers to these common questions, with large companies such as Experian and PayNet providing shorthand answers in the form of credit scores and borrowing history. However, for a leasing company to not just survive, but thrive, within a growing but increasingly competitive industry, it must understand more than just the inherent credit risk of a potential customer.
A financier needs to understand not just whether to approve or decline a deal, but also how to price it. This should be neither left to market forces nor based on a predetermined schedule of program rates that artificially creates false equivalence between homogenous transactions. Rather, all dimensions of an application need to be internalized and integrated into a repeatable process which can, in turn, provide precise pricing guidance to allow sales professionals to effectively price and close a deal that makes economic sense for both the customer and the financier. The end result must be to ensure that a consistent and profitable mix of business is achieved and sustained for the long term.
Managing credit risk boils down to protecting investable capital – a goal that is best achieved through meaningful investment in human capital. Bureau scores are inherently backward looking; there is no substitute for the innately human ability of a properly trained underwriter to intuitively and holistically understand a customer’s business.
Additionally, to make decisions that are optimal for its business as a whole, a company needs each of its departments to function cohesively as a team: for example, collections activity should be shared with underwriters, asset recovery should work arm-in-arm with sales and marketing efforts should be seamlessly integrated with information technology. Every employee needs to understand how the business operates and makes money – not just how to carry out his or her own role. Companies should strive to build cross-trained teams and eliminate sole reliance on any one individual (otherwise known as "key employee risk"). Employees should be sufficiently trained, and adequate processes and procedures should be in place to allow for cross-departmental deployment of resources.
Companies must evaluate all aspects of their human capital: Are new staff employed and trained in anticipation of future growth, rather than rushing to recruit the wrong person when a shortfall is hurting operations? Relatedly, what are the risks/ rewards of remote working: Do the benefits of a wider recruitment pool outweigh challenges in oversight and inclusion in company culture? What about spreading teams across time zones to provide greater customer coverage – or hiring overseas: Is it OK to outsource a critical component of the business?
Another key area of risk is technology. Should a company be an early adopter of new leasing software that promises greater automation, integration and features, or should it hold back and allow others to dull the “bleeding edge” of technology until it matures? One approach introduces the risk of adopting software that doesn’t work; the other allows competitors to get ahead. Technical complications arise when a company is looking to technology to allow it to do something it can’t do today. A shift in business strategy predicated on an unproven technological platform is a high-risk/high-reward event. Here, risk assessment becomes as important in planning as execution: The ultimate question—should we do anything at all— requires a careful analysis based on an honest understanding of what can be done.
Advances in technology have made customer relations an increasingly public event. Whereas even five years ago, a complaint was a private matter best resolved through informed dialogue, the advent of social media has created new reputational risks for companies whose business image is increasingly defined by its online profile. But, while malicious content is always a concern, there is a new opportunity offered to companies that pride themselves on customer service. The ability of the consumer to discriminate between companies that offer good service and those that do not, based on public customer reviews, becomes a comparative advantage and a reward for good customer care. Companies are also able to promote the brand of the company effectively by sharing the participation of their employees in community or charity events.
A final area that requires careful assessment is compliance: Does a leasing company understand not just the letter of the current environment, but the principles that are driving future regulations? This includes guidance affecting larger institutions, such as banks or insurance companies, that may trickle down to smaller organizations. Can a company not just avoid falling foul of penalties, but take to heart the philosophy behind regulations to pressure-test its own processes and procedures? Similarly, uncertainties regarding tax treatment can prompt a last-minute scramble at audit time, or if understood early, contribute to business strategy. Understanding these variables can help companies tailor leasing products to offer the best value to customers under future tax environments.
It may be worth considering whether the same principles used by credit officers to evaluate the merits of applications can be applied more universally within the business. Credit officers tend to be naturally skeptical given their mandate to probe the potential downside of a transaction while assuming an otherwise predictable and upper-bound return. In other departments, this discipline may be harder to apply given the absence of metrics. How do you take a credit officer view of a problem, such as deciding whether or not to upgrade a technology platform, when there is no convenient bureau score for technological maturity or an equivalent of “financials” that give insight into the performance and longevity of a piece of software? Ultimately the solution lies with project management discipline, training and skilled employees who are both empowered to speak their mind and can reliably identify how a new development project not only affects each individual department but the company as a whole. A company whose core values encourage honesty and open communication will be able to marshal the collective understanding of subject matter experts to make smart choices.