Credit Risk

Managing Risk in Uncertain Times

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The Role of the Credit Professional in the Commercial Leasing Industry by Lisa Moore CCP

December 15, 2009: civil servants in Ireland rally in reaction to the Irish government's vote in favour of a reduction in public sector compensation by 5-15%. The Republic of Ireland is claimed to be facing the deepest financial crisis of any advanced nation and it isn't over yet.

May 5, 2010: striking protestors in Greece, the undisputed pillar of ancient democratic civilization, jam the streets setting the finance ministry ablaze, killing three. A twenty-four hour public service strike ensues with all flights grounded. All of this in reaction to a governmental attempt to stabilize Greece's precarious financial position by slashing public spending.

We are living in uncertain times. Remaining informed while being alert to economic indicators is nothing new to the credit professional. Our role as risk managers demands it. While many maintain a thorough knowledge of the variables affecting their relevant industries a unique challenge faces those who manage risk within a multi-industry environment. Such is the role of a credit professional in the commercial leasing industry. While the product, asset leasing, is the constant, industry knowledge requirements run the gamut from medical and dental professionals to oilfield services; restaurants in downtown Vancouver to cattle farmers in Saskatchewan. The ability to assess and manage the risk associated with the myriad of end users may prove daunting to many. An ability to control the overall performance of a portfolio while remaining attentive to the detail of transactions is an acquired skill possessed by few.

It all boils down to a seemingly simple principle according to Rob Murphy, Vice President, Risk Management for Roynat Lease Finance. "The key is to manage the continuous performance of a portfolio in order to generate the expected performance outcome of that portfolio." Hmm, simple. For some but not necessarily for most. Murphy is one of a few experts in his field. He honed his skill here in Canada and south of the border working in senior management roles. While leasing is certainly complex it appears that therein lies the reward as well as the challenge. Where leasing differs from banking is, according to Murphy, while bank lending is transactional, leasing involves assessment of a stream of business. The transaction is certainly a component however it is the stream, the relationship that is key to managing the risk. Complex mathematical models have been created and are used to identify default rates. These default rates are reviewed in the context of the characteristics of each origination stream to gene rate a loss profile. This loss profile again differentiates leasing from banking. Bankers historically manage to a loss rate of zero. With a deep knowledge base at their disposal this has, at times, proven to be an attainable goal. In leasing the key is to identify what is an "acceptable" loss rate and calculate that in to each stream's economics to generate an acceptable return. Managing risk in this way allows for a clearly identifiable credit "box". Once that box, that composite of variables, is identified and assessed, an appetite for risk can be added to the equation. With a highly researched, fully developed profile in place a "where's the win?" must be established to go outside of that box. Any additional risk must be offset by a payoff.

Experience in the US gives Murphy a valuable perspective into the financial debacle that shook the American markets. While overseeing Canada and US small ticket leasing Murphy noticed an alarming change. "In September 2006 the US portfolio, previously highly predictable, began to behave unusually." The result is now known to all. "The problems were basic and the dismal outcome a direct result of straying off the path, moving away from the principles historically employed." Established risk models were ignored, standards reduced as US financial institutions increased their tolerance for marginal credit. While lenders in the US became more aggressive such was not the case north of the border. Canadian financial institutions maintained their conservative approach, choosing to stay with the known and foregoing the opportunities present in pursuing marginal credit. The global crisis is a validation of how Canada has managed its affairs. While banks in Canada have fared better than their US and EU counterparts, Canadians cannot become complacent. Advises Murphy "The reality is Canada is a global player and the economy is intrinsically linked to the performance of our major trading partners (US and Europe). Add to that the fact that North American and European governments have conflicting theories for recovery. It will continue to be interesting." The lesson here for frontline credit managers is simple: in times of change the principles of lending and risk management remain constant. When in doubt, stay the course. The tenets of the trade are unchanging.

July 2010: EU Employment Commission determines an overhaul of pension systems is required and recommends an increase in the pension eligibility age. Governing bodies of France, Spain, Greece and the UK have indicated they will comply. Thousands protest in the streets.Interesting indeed.

Lisa Moore works for Roynat Lease Finance-A Scotiabank Company and has been there in the role of Credit Manager since 2004. This article was originally published in the West Coast Credit Line, the newsletter of our BC Chapter.

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