May 12, 2022
By Will Sneed, SVP Lending Partnerships
For credit unions and lenders, loan origination continues to face pressure on many fronts, whether from fintech challengers, dwindling revenues or administrative burdens. In the year before the pandemic, total deposits increased 4.7% at all U.S. banks. In 2020, they increased more than 20%. This large lift in deposits coupled with the enduring low (albeit rising) interest rate-environment has meant that credit unions and other lenders have faced serious challenges in putting capital to work and shoring up earnings.
In light of this, for sellers who originate loans there is a very real need to seek out creative ways to optimize their balance sheet management, counter pricing pressure and streamline operations. LendKey’s forward flow participation model is an elegant solution for credit unions facing this slew of industry pressures. Simply put, forward flow participations guarantee recurring loan sales and participations are made secure, simple and scalable. By guaranteeing a regular monthly buyer network, credit unions originating loans can free up their balance sheet and plan their origination pipeline; secure in the knowledge that a powerful syndicate of trade-ready buyers awaits them. Notable benefits from loan participation include streamlining onboarding, reporting and payments; standardizing processes and legal contracts; and reducing the administrative burden of managing their own buyer syndicate.
Innovation has long been a part of the evolution of lending and ALIRO by LendKey is no stranger to innovation. In fact, the team behind ALIRO has facilitated over $2 billion in loan flow participations, delivered attractive economics and increased efficiencies for over 335 financial institutions. Today, amid the pandemic-driven deposit influx combined with margin compression and historically low interest rates, LendKey’s proprietary forward flow solution is helping credit unions combat these challenges by finding new ways to help sellers.
Free Up the Balance Sheet in a “Gain on Sale”
After a loan is originated onto a balance sheet, it ties up capital. There is an opportunity cost to the loan originator in tying up this capital. With LendKey’s pipeline of trade-ready buyers, a seller can now offload the loan for a “gain on sale” and in doing so, free up the balance sheet to originate more loans. Simply put, “gain on sale” is where the buyer purchases the loan from the seller at a premium to its [book value], locking in a guaranteed profit at the point of sale. Given that the forward flow approach provides a steady and regular stream of buyers, sellers can diversify and grow their sources of income through this channel with regular participation in the program.
Increase loan production
In the forward flow participation model, sellers sell fractional shares of the loan while retaining a minimum percentage, usually 10%, for their own balance sheet. In other words, this frees up 90% of the balance sheet in this example, to then redeploy in originating new loans and increasing its loan production–by a factor of 10x in our scenario. So rather than being passively managed and limiting, the balance sheet is now a powerful lever for creating new origination opportunities and increasing loan production beyond the size of the balance sheet.
Diversify Revenue and Improve Margins
After the sale of a loan, the borrower remains a member of the selling financial institution and does not transfer to the buyer. As part of this, the seller has the option to retain the “servicing strip”, the ongoing commitment to the borrower to service the loan. For this service, the seller retains the ongoing loan service fee on the full amount of the loan. This is another potential source of revenue for the seller, which can help to buffer interest margin compression, diversify revenue sources and can help cover the cost of originating more loans once the balance sheet is freed up.
Manage Liquidity and Concentration Limits
Through loan sales, sellers are able to actively manage liquidity and concentration risk limits across their book, dialing back on certain loan exposures that are pushing up against concentration limits or stacking the liquidity spectrum. Nimbleness and precision are key to good risk management techniques, and through loan participation, sellers have the tools to quickly and efficiently control these risk levers. Conversely, for buyers who are seeking out specific loan exposures, [loan participations] may present attractive investment opportunities for them.
Tapping New Sources of Capital
In securing a stable source of buyers, ALIRO by LendKey serves as a central marketplace to bring other credit unions and community bank buyers together with sellers. These buyers bring with them low-cost stable capital to put to work and are motivated to optimize their own loan-to-share ratios or to diversify their own asset base.
Efficiency Gains
ALIRO by LendKey, and Forward flow substantially reduces the administrative burden of maintaining, diligencing and growing a stable source of buyers, while providing the infrastructure to rapidly scale, support burdensome reporting requirements, reduce operational friction, standardize documentation and compress timelines.
As a deal network for buying and selling loans, ALIRO has taken balance sheet management to a whole new level. ALIRO’s Forward Flow program and its One-Time-Sales option together offer an approach to loan participation designed to be more dynamic, predictable and streamlined. Forward Flow enables both buyers and sellers to better plan and anticipate supply and demand in the lending marketplace through recurring loan participations. As part of Lendkey, it is no surprise the success ALIRO has had to date as the company was founded with a simple goal: to help banks and credit unions leverage the power of digital lending solutions to better manage their balance sheets. With ALIRO raising the bar, perhaps innovation in the evolution of lending is only just beginning.
Will Sneed leads LendKey’s lender partnerships team where he helps clients to execute profitable digital lending and capital distribution strategies. Will has been instrumental in creating LendKey’s partnerships throughout the financial services industry and growing LendKey’s client base of community banks and credit unions.