Liquidity Examined

A lender can look at the current portion of a balance sheet, which tells us assets that are cash or will be turned into cash in the next year and liabilities that must be paid within the next 12 months with cash.  Lenders also can run the current ratio that compares current assets to current liabilities to tell if the company has cash resources to satisfy its short term obligations.

This review is good to do, but it is possible for the lender to think the company is in good shape, when actually there is a liquidity crisis at hand.  Thus, liquidity must be inspected further to make sure that the liquidity is true and not an illusion.

One area is concentration risk.  Receivables should be reviewed for any concentrations to one or a small group of buyers.  If a customer were to fail while owing a lot of money to your borrower, it could have a disastrous impact and the company may see current assets vanish before their eyes.  Also, inventories should be looked at.  If there are products that are stockpiled and do not have a ready market, turning those products into cash may be impaired or the item may have to be discounted to move it.

Verifying inventory or accounts receivable are is also important.  Just because your auto dealer says he has a certain inventory of cars or your farmer says the grain is in the bin, is that actually true?  Inspections are a must if you have a substantial loan that is based upon inventory as the source of repayment.

Another factor that will impact liquidity is what methods of risk management are your customers using?  If you have a farmer with crops of livestock, are these subject to a contract price or are these items subject to market volatility?  How stable are the inventory prices?  Can you take the figure to the bank or is there a possibility that when the inventory is sold, less cash will be realized than what is reported on the balance sheet as inventories?

Timing is an important factor for current assets.  When will the receivables become cash?  Are any taking longer to collect than usual?  If that trend continues, there is more of a need of working capital to support operations.  One possible strategy is to look at a month by month projected budget or statement of cash flows to see when cash expenditures will be paid and when cash revenues will be received.  This is necessary when determining what an appropriate level is for a line of credit.

The quality of inventory is also a key factor to watch.  Crops will command a premium or be subject to a discount based upon items like the moisture content.  Organic crop may be sold at a higher price than a conventionally grown crop.  Also what does your producer do with a GMO crop if China places a ban on buying GMOs?  This can push down the market price of the grain your farmer has.

Insurance is an important factor to consider.  If the borrower is under-insured, a catastrophe could be a severe drain to the cash available for operations if inventory is ruined.  Another factor to consider is does the company have adequate insurance to overcome a peril and continue operations or will there be a business disruption?

Looking at the level of the line of credit is an important judge of liquidity.  Is adequate inventory or receivables available to retire the LOC?  If not, how much will be left over and how much additional drain on cash will the remaining balance cause?  This is a reason to manage a LOC with a borrowing base.

The level of cash is a final determination in figuring the true liquidity.  Cash does pay the bills but the question is how much cash is necessary for the company to operate.  How does the balance in the bank compare to the requirements for operations, major expenses, and debt service?  Comparing cash to these expenses can determine the burn rate of cash.  This calculation can be essential to seeing how long a company can weather a downturn.

So all liquidity is not created equal.  Some items don’t turn into cash as quickly as the company may need this for operations.  A closer inspection will help the lender understand how solid the liquidity numbers actually are.

Breaking Away from Herd Mentality

There is unquestionably an advantage to belonging to a group, and we all know how there is a “safety in numbers” for personal and professional survival. However, there can be disadvantages to following the herd everywhere it roams.  If resources are lean, you will compete against the entire herd, and cannibalism may arise.

I visited the Minneapolis-St. Paul area last week, and had an opportunity to visit with CU business lenders in that market. They echoed a stressful sentiment about competition that I was accustomed to hearing in Washington DC. In major urban markets, all banks, big and small, are attracted to do business there, and the competition gets to be quite brutal. Terms of lending get loose, interest rates get low, all to win the deal, leaving prudent lenders with few opportunities that make sense. In this situation, what could one possibly do to be competitive, but not stupid?

I have always been an advocate of abandoning the herd and going off the beaten path. While this is not for everyone, it can be fruitful for hardworking people willing to educate themselves in new markets, industries and practices.

For example, every business expo in the Washington DC market was packed full of bankers. I would meet more bankers at these meetings than actual business leads! It was far from an effective way to land new business. I decided it would be better instead to branch out into a different industry, the non-profit industry, where bankers were not falling over each other to win business. Why weren’t bankers vying for non-profit accounts? I think most didn’t realize that they had similar needs as other businesses, like the desire to purchase or construct facilities. Since nobody thinks about non-profits when they think about banking, it wasn’t a competitive field. The herd wasn’t ever at that watering hole, so it never got much attention.

I also convinced my colleagues that perhaps it didn’t make much sense to chase our business in a crowded field, but rather, have the business chase us. We decided to have an exclusive, by invitation only, meeting at our bank for various businessmen and developers. In this case, we were the only bankers at the meeting, and the clients felt special by attending the event. Other banks were not doing these types of events, so we definitely stood out in their minds as unique.

Another way in which I tried to break from the herd was by exploring new markets. Again, every banker was trying to do business in Washington DC, but none of them were looking at opportunities outside of the city. I looked at government data that tracked the economic output of the surrounding communities, and I could see Baltimore was experiencing an upswing in growth. Despite the recent negative news surrounding the city, the community is poised for great redevelopment. I attended a couple of business expos there, and often found I was the only banker in attendance! This gave me easier access to developers and other professionals too.

There is a reason why many bankers were not trying what I did, and it boils down to risk. It is a risk to enter a new industry, enter a new market, or adopt a new pattern of doing business. But when you have to compete in your existing market with extraordinary low rates or bad terms, then how much additional risk is it to explore new options elsewhere? Trying to win a giant race is exhausting, and sometimes it is easier and no more risky to try something new.

Sacred Cows Make Great Steak

There are two things that make a cow one of the greatest animals ever.  First, there is an active market where you can turn your bovine into cash.  The price you will receive from your beef critter is subject to market forces, but you can still turn it into cash.  In recent years, with the historically low numbers in the US cattle herd, prices have been good.

The second factor is greater than the first in my mind, since it creates the reason for the market.  Your cow can be turned into wonderful cuts of meat:  hamburger, ribs, and steak.  This meat can be turned into edible wonderfulness via the addition of heat in the form of baking, frying, or my favorites, smoking and grilling.  The thought of 10 hour slow smoked brisket over hickory and cherry woods makes my mouth water.

Now, in each of our organizations, we all have sacred cows.  These are things that we would never dare give up and are held in higher esteem than cattle are to some Hindus.  Some of these items may be the standard Monday morning meeting, the Tuesday sales report, or the Friday wrap-up.  Other sacred cows could be a process, spreadsheet, form, or workflow that is followed to a “T” every time.  These are things that are never abandoned, for if they were, we would be afraid the company would collapse.

Now you may be thinking, “But there are certain tasks that have to be done a specific way.  I have found out the most effective way to execute this job.”  In some cases, this is not a sacred cow, this is an ox.  An ox is a strong critter you can use alone or in teams to really do tough work like plowing a field or moving heavy objects.  Oxen love to work and can really accomplish great things.  One ox that I tend to do when I analyze a credit is to first focus on the cash flow of the company.  I want to understand how cash moves and how I will be repaid.  I don’t have to always do this first, but I have found it tends to weed out more problem deals if I start there. You have to first ask if the item under scrutiny is an ox or a sacred cow.  If it is an ox, realize that even that can become more efficient.

Sacred cows, on the other hand, are there to just eat and look pretty. Sacred cows consume a lot of energy and resources and don’t give you any results other than something to look at.  But we don’t realize that the best thing about the sacred cow is also the best characteristic about real cattle, they can be turned into steak!

This requires critical thinking that is often done best by someone who is not ingrained into the corporate culture.  Is the Monday meeting valuable or is this just a waste of time?  Could the same thing be accomplished by an email or an internal wiki?  The old spreadsheet you are using to accomplish a task-is is really necessary and is it efficient?  Does it need to be upgraded to include formulas and shared with those who will input the data?  Is the process the most efficient way to work?

Never discount the ideas from the new person.  Lots of times they may be able to find ways to improve your company since they are not steeped in the culture and the “way we do things”.  If someone was important enough to hire, they should be important enough to listen to their ideas.  A good leader will learn to stop what he is doing and listen whenever a team member starts out with, “You may think I am crazy, but I had this idea….”

Slaughtering the sacred cows will not only provide great enjoyment from the entire team as they consume the steak, but it will also make you more money by increasing the efficiency of the organization and saving time for tasks that are important to generating income and increasing the service provided by your company.

Consumer Lending vs. Business Lending : Like Comparing Apples to Oranges

Credit unions fill a niche that banks often overlook. Sometimes people in great need don’t underwrite for loans, perhaps due to mistakes they made in the past or because of unfortunate life events. Here is where credit unions shine. Just because a member was overwhelmed with medical debt in the past, or they were never given a good opportunity to build credit, the local CU will not turn their back on their members. They understand character and work ethic can be bankable, and they can help with financing a used car to help someone get to work or help with replacing a furnace in the middle of winter.

Mathematically speaking, these aren’t terrible risks to take. While credit scores can help us assess some risk, a score hardly tells the whole story. Personal, in-depth knowledge about a person’s life situation and character is always a better tool for decision making. And realistically, any able-bodied human being has the capacity to repay a loan for a few thousand dollars. Any honest, working person should always have access to some credit for life’s necessities. C’mon, it’s just a few thousand bucks!

So what about credit to fund a business? Now we are playing in a different ballpark. First, a business venture is a risk an individual takes to be profitable. Business lending differs from consumer lending, because repayment hinges upon the profitability of an enterprise, and not someone’s wages.

When someone buys real estate as an investment, it is a business loan. When someone needs a line of credit to bridge the collection of receivables, it is a business loan. When there is a need to purchase equipment so work can be done to fulfill a contract, you are dealing with a business loan. Note that this is far removed from the member that is down on their luck that just needs a little understanding to gain access to necessities.

Understanding the risk in lending to a business is much different than understanding the risk in lending to an individual. Because the repayment means is much different, the math and statistics are entirely different. Business loans tend to deal with larger sums of money, which means larger potential losses. This leads to business lending being given more serious treatment overall, and thus, CUs must engage in business lending with the same standards that any bank would. In this case, we see less flexibility to help the member at any cost, because simply put, the cost becomes so much greater.

Character of the business owners matter, but now, risk to an institution’s capital matters much more. This creates the major rift on how CUs can approach business lending and consumer lending.  And for these reasons, financial institutions separate out the business lending from consumer lending completely. The consumer lenders report to a retail operations specialist, and the business lenders report to a chief credit officer. While it all may seem like lending money, they are different like apples and oranges.

A credit union should help honest members going through challenging times, because that is part of the credit union mission. And, credit unions should provide business loans, because it helps support jobs and economic development in the community. However, a credit union shouldn’t always exhibit the same flexibility in making business loans like it would in consumer lending. Believing in a member and their character is important, but giving them credit for a risky business proposition is like giving them rope to hang themselves. In this case, the CUs need to be on par with bank lending standards in the field of business lending.

New CU Business Regulations, Time to Grow Up!

When I was in junior high and high school, I had a curfew to meet.  I also had to report where I was at and where I was going.  My parents were concerned about me and wanted to know how to keep me safe, just as all good parents.

After high school, I ended up attending a college in my hometown.  After one year of living on campus, I quickly learned the benefit of living at home and commuting to college.  I could save money on room and board.  Going home also helped get away from the campus.  If I wanted to get away from home, I could always crash at the fraternity house on campus.  It was the best of both worlds.

When I was in college, my parents did not impose a curfew or require me to report where I was at.  If I stayed up till the wee hours of the morning, they did not care as long as I was mindful and respectful of them when I came home.  But this freedom also came with more responsibility.  If I stayed out too long and was dog tired the next day it would impact my grades.  My actions would impact my grades and future opportunities in life.

This year, as credit unions, we are on the edge of a major change in business lending regulations from the National Credit Union Administration.  The main spirt of the change is to move from a proscriptive regulation that defines inside the regs what is permitted and what is not, to a regulation that has more freedom and where the CU is reliant upon sound credit lending policies and practices.  The former is much like my life in high school at home.  I had to let my parents know where I was and ask permission for what I wanted to do.  The latter is like my college years at home.

While the new regs will be a welcome relief for many commercial and agricultural lenders, it also requires greater responsibility and restraint.  Items that CUs for years have wanted such as the ability to decide when to get a guarantee and when to not, will be present in the new regs.  However, this “gift” also increases the responsibility of the credit department in making sure that sound lending judgement and credit structure is put in place.

The new regs will increase the credit expertise that the CU will have to exhibit.  Credit administration folks will have to justify their decisions and will not be able to go back to the proscriptive regulation of the past.  Commercial lenders will have to answer to the NCUA for their decisions.  What may be worse is the commercial lender answering to their board for a loss sustained from a poorly structured business credit.

In many ways, the changes in business regs from the NCUA will be like my growing from a high school student to a college student.  There will be more freedom, but with more freedom, comes more responsibility.  If anything, the changes will create more demand for sound internal credit departments and experienced business CUSOs to properly manage these loan assets.

Candor

If you met the man who built one of the most successful companies in the world, you probably wouldn’t think he was the guy behind it all. Under Jack Welch’s management, General Electric’s value rose by 4,000%, and it was a top company worldwide in all its business lines by the time Welch left in 2001. Jack Welch only stands 5 feet, 7 inches, and he doesn’t have thick luxurious hair. In fact, he is bald, and even speaks with a bit of a stutter. Not having a natural born leader look or charisma, why was he able to get so many people to follow him and believe in him? Jack attributes it to “candor.”

Welch wrote in his book, Winning, that candor is a necessary element to any successful business. In fact, Welch has even gone on to say that lack of candor is the biggest dirty secret in business. Welch noted, “Lack of candor basically blocks smart ideas, fast action, and good people contributing all the stuff they’ve got. It’s a killer.” In other words, when people don’t speak up, any organization is worse off for it.

Speaking from a personal experience, some people view candor as something radioactive, which you should avoid and shield yourself from. Working at a bank in Washington DC, I had a precarious situation as a senior underwriter, because I believed my job was to shepherd through good loans and stop bad loans from being made. To my surprise, the bank had staunch factions that made this difficult to accomplish.

Lenders felt anytime someone stopped one of their loans, it was a malicious act by an enemy. On the other hand, the credit department counted their wins in how many loans they could decline. In my attempt to see good loans get made, my credit team thought I was working against them. But when I tried to stop bad loans from being made, the lenders thought I was working against their team.  It left both sides wondering whose side I was really on, even though I thought I was ultimately trying to be on the “bank’s” side! It appeared that facts were inconveniently getting in the way of feuding departments trying to vie for greater control within the bank, and profitable decision making had taken a backseat.

In a more interesting situation, I was a Peace Corps’ volunteer in the former Soviet Republic of Ukraine. I was invited to speak at a university, and told I could speak about anything I wanted. While still being young and naïve, I thought it would be a great opportunity to discuss how to reform education in Ukraine to reduce corruption. In fact, my whole argument was they needed to pay educators much more, so they can hold them more accountable and make the bribes seem petty and not worth the risk. After that event, I was blacklisted by the university. When I found this out, I naturally wanted to know why. I was informed it was because I acknowledged that corruption may exist in their institution.

Candor, which is defined as “the quality of being open and honest in expression,” is a tough quality to have. Candor might hurt someone’s emotions, or is unpleasant to hear. And, it isn’t uncommon for people to shoot the messenger, so nobody wants to be the bearer of bad news. But, good organizations value candor and encourage it. Welch knew this, and used his own candor and solicited the candor of others to transform GE into one of the best company’s in its day. Welch understood that all the facts can’t be dealt with unless they are all put on the table. Only in an environment where anything can be honestly discussed can the best decisions be made to build better companies.

Will the Decreasing Unemployment Rate Allow the Fed to Raise Rates?

The July 2 release of the U.S. employment numbers show that the published unemployment rate hit a seven year low at 5.3%.  New jobs created were 223,000.  The Federal Reserve Bank tends to attempt to balance full employment, which is usually defined around 5% or less with keeping inflation inside their target range.  When full employment is reached, some economists believe that this will begin to push wages higher, causing inflation.  The Fed would step in to cool off the economy by raising interest rates or contracting the money supply.

But does these employment numbers mean the economy is improving?  The answer is there is weakness in the employment situation once you drill down into the numbers.  First, I noted that new jobs for April and May were adjusted down from their initial estimates, so the previous months’ numbers are not as rosy as initially reported.

The big driver for the decrease in the unemployment rate in June was that nearly 640,000 people left the labor force.  The Commerce Department’s measure of unemployment which is commonly published is called “U-3”.  Once one leaves the workforce, they are taken off the numerator of unemployed and the denominator of those that are in the workforce.  This will tend to drop the unemployment rate.  Now it is also probably safe to assume that more people gave up on finding a job than those who retired with their gold watch.

A better measure of unemployment is what the Commerce Department calls “U-6”.  It counts unemployed, those marginally attracted to the workforce, and those who are employed part time but really want a full time job.  This number is divided by the workforce.   In June 2015, it rose slightly to 10.5%.  Now here if someone dropped completely from the work force, they are out of the ratio.  But this captures more of those who cannot find a job that will employ them full time.

Another measure to look at is the labor force participation rate.  In June, it fell to the lowest level since October 1977 at 62.6%, the time when the disco version of Star Wars topped the charts and the big box office was George Burns in Oh, God!  At this time, over 90 million Americans are not part of the labor force.  That puts extra strain on those who are in the labor force for any benefits they receive from the taxes on those who work.

The Commerce Department also reported wage growth as flat.  Average hourly earnings have remained virtually unchanged from the previous period.  So it appears there is no real wage inflation that is pressing at the moment either from wage growth statistics or from high demand for jobs.  When this is coupled with the current sovereign debt crisis in Greece, the free fall in the Chinese stock market, and the general slowing down in the world economy, it would appear there may be fewer reasons for a tightening monetary policy.

What is the Secondary Market?

We are all familiar with the idea of a “market,” which is a place where things are bought and sold, or in a more basic sense, where a transaction occurs. When we go to Wal-Mart, the car dealership, or even the supermarket, we are going to a “primary” market. In other words, we are the first owners of a product which has been manufactured for consumption.

A “secondary” market is where people go to purchase products that have been previously owned by someone else. Examples of this would be a flea market, garage sale, or even a used car dealership. Secondary markets exist for highly valued items too, such as homes or even stocks and bonds. Just because an item is sold on a secondary market doesn’t mean it is necessarily “secondhand” quality!

Often times in banking, we talk about secondary markets too. We can make loans, and then resell them to a different owner too. The best example of this is home mortgages. Investors like pension funds and insurance companies like to buy-up home mortgages, because they typically have a steady repayment stream and are well-collateralized. But, their primary function is not lending, of course, so it is easier to allow credit unions and banks to make the loans, and then later buy the loans from these financial institutions.

An interesting aspect of the secondary market for home mortgages, is that insurance companies and pension funds are looking for long-term investments. They will even buy loans that have rates fixed for as long as 30 years. This is further fascinating, because a bank would not ordinarily do a fixed rate loan for so long, but will make the loan only if it is certain it can later resell that loan to an investor! Thus we get the concept of “conforming” loan, which is a loan that conforms to the standards required to by a secondary market buyer.

Home mortgages are not the only type of loans bought and sold on a secondary market. Student loans are also sold into the secondary market, as well as farm mortgages, car loans, and even credit card receivables. Hypothetically, any loan could be sold on a secondary market, as long as there is a willing buyer.

Some of these secondary markets were originally established to help banks manage their liquidity. Being able to sell long-term fixed rate loans has been a great innovation for financial institutions, because it has become increasingly hard to attract long-term fixed rate deposits to match-fund those loans. The government even helped to initially establish these secondary markets by creating the companies that would purchase these loans. This was the reason behind creating Fannie Mae and Freddie Mac for home mortgages, Sallie Mae to buy student loans, and Farmer Mac to purchase farm mortgages.

Some of these secondary market actors received negative attention and blame for the last recession. Some have criticized the fact that secondary markets even exist, and questioned whether it was fair to buy and sell loans, with the borrower having no say in the matter. However, when a loan is sold into the secondary market, the terms of the contract do not and cannot change. And, many of the problems that resulted in the recession had to do with poor policy and auditing standards. We need to be careful not to throw out the baby with the bathwater, and acknowledge that the secondary market has been a wonderful innovation that benefits consumers and banks immensely.

American Exceptionalism and the Independence Day

This Saturday is Independence Day.  And while most of us will be enjoying time around a BBQ, watching a baseball game, or at the beach, many will end the day watching a firework display.  Most of this comes with little thought of what and why we are celebrating.

This year is the first year of my life that I can remember hearing some leaders in our culture state that we should not be celebrating the 4th of July, that our national flag is a symbol of oppression and should be eliminated.  They say there is nothing special about America and that American Exceptionalism does not exist.

But American Exceptionalism does not mean that we are better than other people in the world.  Exceptional can be found throughout the world.  To understand American Exceptionalism, one must first look at the governments and rulers since the beginning of time.  History is filled with leaders who are tyrants, oppressing people who struggle to free themselves.  The majority of history and the current world status is marked with this battle.

Then, a country appears on the scene with a different basis for its government.  It is not based upon might, lineage, or privilege.  It is based upon individual liberty.  This country’s Declaration of Independence states that, “all men are created equal and are endowed by their Creator with certain unalienable Rights, that among these are Life, Liberty and the pursuit of Happiness.”  The founding fathers realize that people are naturally wired this way and the most successful government will not be one that imposes its iron will upon people but will be one that bows to the will of the people.

So our founders set up a system that makes the government ultimately subject to the people.  Boundaries are set as to what rights must be preserved for the individual and what actions the government can take.  They set up a culture that allows for opportunity for people to improve their lives for those who come here and who are willing to work hard.  Because of how we were founded, America becomes the land of opportunity and many seek to come and begin a life here.  (Think about that.  What other country do you know that has been called a “land of opportunity”?)

The USA is not exceptional because it is perfect.  We have made mistakes since our founding and at times seem to lose our way.  Our country is exceptional because of its founding and basis.

Tyrants are people who can only obtain a following by force and not win in the free market of ideas.  Tyrants from outside our country have fought against this country and how it was founded.  Some tyrants from the inside attempt to force their will upon the people.  But whether outside or inside, tyrants do not rest, and will always need to be opposed in order to protect liberty and freedom.

So this Independence Day, spend some time reflecting upon our country and its founding.  Take some time to read the Declaration of Independence and the Constitution.  Realize what we need to do to continue to celebrate the 4th of July.

The Screwdriver, the Saw, and the Hammer

I remember growing up that I was not allowed to touch my father’s tools. The reason being, I would probably lose them or destroy them. Imagine giving a small child a toolbox full of tools. While the child probably has an idea what each tool is used for, they probably don’t care too much about using the tool the right way. I recall it was just plain fun to use metal tools to thrash objects and alter their shape by any means necessary.

For some people, it seems old habits die hard. In banking, I see the wrong tool being used for the wrong job constantly; just because it is there to be used. The issue with most modern training programs is they give you a toolbox full of tools, but they fail to explain how and when to use those tools. Current ratios have little use in real estate, just like NOI cash flows miss a whole host of issues in C&I lending. What the heck am I talking about?

Let’s look at the world of commercial lending this way: we have a hammer as a tool that helps us in commercial real estate (CRE); we have a screwdriver that is a tool that helps us in commercial and industrial lending (C&I); and we have a saw as a tool that helps us in agricultural lending.

A hammer’s primary use will always be to pound nails, and do some occasional pounding of other items. But, you wouldn’t use a hammer to drive in a screw, and you certainly wouldn’t use a hammer to cut down a tree. And yet, I see people using hammers to accomplish these tasks. Why? I think the issue is our tools are not tangible. It is hard to envision an analysis technique as a tool, and then be trained as to when it makes sense to use this tool and when it makes sense to get a different tool.

Are you using the wrong tool for the job? Often, people try to put real estate loans into spreading software, like Suntell or WebEquity. Spreading software is a screwdriver, but remember for CRE, we need a hammer! Is there special real estate software that exists? Yes, there is! But it may not be worth the expense until you have very large CRE portfolios (say over $250 million).

And, in the same fashion, people will try to calculate leverage and liquidity ratios for real estate. Again, you are using a screwdriver when you actually need a hammer. You should rather be focusing on loan-to-value (LTV) and rental markets or leases when it comes to real estate.

I see these issues arise all the time, and I think I’ve seen almost every tool used incorrectly, when a different one was called for. Saws instead of hammers, hammers instead of saws, and a screwdriver used for everything but a screwdriver! At the end of the day, you need to make sure you have a good person teaching you how and when to use the tools in your toolbox, because a training program that simply gives you the tools is not enough!

New Changes on the Horizon for Credit Union MBL Policy

The Board of the National Credit Union Administration voted unanimously in its June Board Meeting to drastically change the member business loan rules.  The overall spirit is to move from a prescriptive approach, as outlined in current regulations, to a tenor that focuses on sound business lending policy and procedures.  This new approach will help eliminate the unintended consequences of credit unions managing their lending practices to regulatory restrictions instead of focusing on sound risk management principles.

This new approach will allow credit unions more flexibility in how they serve their business members.  Some of the areas the new proposed regulations would impact would be:

·         Allowing CUs to decide when to waive a personal guarantee

·         Removing LTV limits

·         Remove the waiver process altogether

·         Lift limits on construction and development loans

·         Clarify that participation in loans to non-members do not count against the statutory MBL cap

·         Change MBL limits from the standard 12.25% of assets to 1.75xs applicable net worth

·         Modify limits on unsecured MBLs

·         Change the restrictive definition of the “associated borrower”

·         Increase the 15% limit of loans to one borrower to 25%, if the additional 10% is backed by readily marketed collateral

This proposal would allow CUs to write their own loan policies and place their own limits on collateral and security requirements, equity requirements and loan limits.

In many ways, the proposals are a welcome relief and will allow CUs to compete directly in the market place with banks and will eliminate some of the burdensome complexity the current regulations promote.

What the regulation will require is that the business department of CUs now are required to be better.  Loan decisions are not to be structured to meet regulations, but sound business lending practices.  The responsibility for finding those sound practices and putting them into place falls where it should, with the individual credit union.

The regulation should also encourage the use of experts, such as a business CUSO, to provide some sound support to any CU MBL department that may lack experience in a particular area.  I would think the requirement to shift responsible lending back to the CU will encourage CUs to use whatever tools that would be at their disposal to manage risk in an insightful and prudent manner.  The new proposals are not an excuse to allow wild lending that ignores all sound credit judgement in order to put deals on the books.  That is a recipe for disaster, delinquency, and depressed earnings.

It Takes a Committee to Kill Creativity and Accomplishment

Some of the most dreaded words that can cause progress to grind to a screeching halt are, “Let’s form a committee.”  Now, in this case I am not discussing the power of good collaborative efforts where all people in the group are valued and listened to for their opinion.  Firms need good creative brainstorming sessions, off-site retreats, or the frequent golf game to generate ideas to help the company grow.

Often, an organization will constantly form committees to solve problems and generate new ideas with the result of nothing being solved or no new ideas really ever being generated.  Sometimes, these groups value the process over actual progress.  They would rather have a tidy series of meeting minutes to show they met, instead of pointing to a series of actual accomplishments.  This is like a football team that meets in the class to go over the playbook, but who never actually runs a play on the field.

This reminds me of a conversation I had with a neighbor whose company performed services for highway monitoring in a state in the Midwest.  His customer was the state highway department.  They had a quirky characteristic he had to get used to.  They did not value getting to the goal in the most inexpensive and quickest manner.  Most companies have the boundaries, like a football sidelines, and a goal line.  It doesn’t matter how you get this to the goal, just do it as quickly as you can.  This state department valued the step-by-step process and did not care if they ever reached the goal.  In fact, they had meetings on how to properly hold meetings!  Maybe this is common for a governmental entity.  But does your institution truly value achievement or just the going through the motions of the process more?

Another possible characteristic of the committee-forming junkie leader, is a strong commitment to the status quo or a belief that no good ideas are generated from anyone in the organization but he and his close confidants.  This can effectively kill good ideas from Frontline Frieda, by running these through a committee structure.  This works especially well when the committee filled with others committed to the status quo.  Additional bonus points are awarded if some on the committee have an ax to grind against Frieda.  By the time they finish pouring water to douse out Frieda’s flickering embers of an idea, she will learn in the future, to never speak of any idea she has again.  It is unfortunate, but this is often the goal of a short sighted leader.

Some leaders form committees out of the fear of making decisions on their own.  They think it takes them off the hook to blame a poorly executed or ill-thought idea on a committee.  Yet, in true leadership, someone has to shoulder the blame when the other shoe drops.  A true leader is more willing to share the success with the team but take responsibility for the failure on his own.

Other leaders take tasks that should be delegated to an individual and place it in the hands of the committee because they do not trust members of their team with the job.  Allowing people to make decisions helps increase their leadership capacity.  As the leaders grow underneath the head leader, the whole company will be able to accomplish more.

It is interesting to note that the use of a committee meeting to kill progress is not new.  In fact, an event recorded in the Old Testament book of Nehemiah deals specifically with a committee meeting.  Nehemiah is leading the rebuilding of the walls of Jerusalem.  In those days, to not have walls around a city meant that you had no defenses against an enemy attack.  Some people had opposed Nehemiah at every step of the way as they did not want to see the walls built.

In the 6th chapter, they made the final plea to Nehemiah.  Four different times, they asked to have a special committee meeting with Nehemiah.  And each time, Nehemiah answered the same, “I am doing a great work, so that I cannot come down.  Why should the work cease while I leave it and go down to you?”  If you find yourself in an organization that values the committee meeting more than accomplishing really great things, perhaps the focus should be on continuing the great work instead of attending another committee.

Fallacies in Banking

A fallacy is a “mistaken belief, especially one based on unsound argument,” and there are plenty of them in banking!

A common fallacy I have often encountered is the belief that quantity equals quality. Some lenders feel their most important credential is how many years they have spent in the industry of banking. But, just because someone has spent a long time doing something doesn’t mean they have been doing a good job at it. Other lenders like to brag about the size of their portfolio. Again, if they are mostly bad loans, does it make sense to brag about an exceptionally high number of them?

The most frequent fallacy I must address is the belief that collateral is the only thing necessary to justify a loan. Collateral is important to making a good loan, but it shouldn’t be the only reason someone is given a loan. Often times, it is tempting to give someone a loan just because they have a huge piece of land or ample equity in their home. But, this can turn into a disaster unless there is a source of cash flow. Without cash flow, the loan will quickly default and the lender will be forced to foreclose. Nobody wins with a foreclosure, which becomes a very expensive process for the lender.

The next fallacy is that you need to jump on the bandwagon. Just like your mother used to say, if all your friends jump off a bridge, would you do it too? Some lenders think they need to. Other competing lenders may offer more attractive deals to the borrower, but it may be at the expense of poor credit quality. Or, there is the belief that if we can’t give the borrower what they want, the borrower will find someone else to get it done. An honest discussion with your borrower may help them understand the reason for your lending requirements. Step back from the edge!

The most challenging fallacy to explain to people is that every great investment opportunity is not a bankable asset. What do I mean? There are risks we are willing to take with our own money that are not acceptable risks to take with depositors’ money. If I am offered a bet where I know there is a 75% chance I’m going to win, then I’m going to make that bet, if it’s my own cash! But if there is a 25% chance I’ll lose depositors’ money, then risk of loss is unacceptably high. We need the odds to be 99% in our favor before we can open the bank vault. Just because it is a good idea doesn’t mean the credit union should fund the idea. In other words, all good opportunities are not necessarily bankable assets.

I think most of the fallacies tend to snag people when they are in the heat of the moment. It's good if we get excited about someone's idea, experience, or the fact they have something significant to bring to the table. But, we need to calm down and follow standard underwriting procedures, and not let the excitement be the reason for making the loan.

Staying Competitive in the Mature Industry of Banking

The concept of lending and borrowing money must be as old as civilization itself. And, in our modern time, I can’t imagine there was ever another time in history when it was so easy to gain access to credit. Not only do consumers have a wide array of banks and credit unions to choose from, many companies will now finance their own products they manufacture, or retail centers are willing to finance the products they sell. In fact, it has become so easy, that we need credit counseling and other services to help educate people not to abuse this easy access to credit!

This same world of ample credit opportunities applies to business owners too. The field of banking was already a mature business, but the deregulation of interstate banking has led to strong banking competition in every market. So what sets your institution apart when a business borrower considers your institution, especially when so many offer the same thing? Why should a business owner come to you for a loan, and not another financial institution in town? If you cannot readily answer this question, you may have a problem.

I recently had a business owner thank me for helping finance his project. He said he likes working with my company, because we both understand the industry, and we helped him take advantage of a federal program that would save him millions. He then noted that no other banker he worked with ever mentioned this program. It is my personal belief that the other bankers probably had no idea the program existed!

This is an issue I’ve run into constantly throughout my finance career, and it is still an issue I deal with weekly. There are several programs that exist that can help borrowers save money or enhance their credit strength, but lenders are not making use of them. Part of it is ignorance, which is unfortunate. To maintain your competitive edge as a lender, you should know about these programs and educate your borrowers about them.

Some lenders know about these programs, but refuse to use them. Why? Often, it is because they have never used them, and that is the way it has always been done around their shop! Some don’t make use of them because they label these programs “exotic”. Anything exotic is considered scary, if not foolish, and they mock the people that make use of those programs. All the while, they are probably losing clients to a lender down the road who is willing to be innovative and adopt these programs!

Dismissing the great benefits of things like Farmer Mac, tax credit equity and state economic development loans is like complaining about people using the internet or cell phones to do business; you can complain all you want, but the smart people learn how to use them to remain competitive.

In an industry as mature as banking, your loan will not be all that different than your competitors’ loans, so you need to set yourself apart. You, as the lender, need to add value. Treating your borrower like every other banker in town is giving him the same indistinguishable service. Helping your borrower understand there are innovative lending programs out there and multiple ways to get the deal done, you become more relevant than your peers, and it helps you win by becoming an expert who can adapt.

Why I Can't Play the Trumpet

When I was in fifth grade, I took up the trumpet in school.  My parents bought me a shiny new instrument on monthly payments.  I began in band with great enthusiasm and for several years of school, worked diligently and practiced hard. 

In my seventh grade year, we did a school trip to hear a Marine Corps Brass Band that came through our town.  The band featured trumpet players.  When the first trumpet soloist hit the first note, a startling revelation hit me.  The note rang proudly through the auditorium and sounded like it came directly from the horn of angels.  I realized that no matter how hard I tried, I would not play that well.

My desire to continue working hard plummeted.  Eventually, I slid down the rankings until I was at seventh chair out of ten.  Our band needed a baritone player, so I switched to that in my eighth grade year.  I played one year at that until quitting band altogether.  Actually, I quit the trumpet during the Marine Corps concert.  It just took me a couple of years later to officially put it down.

I still have my trumpet, packed away inside some closet or a corner of the garage.  So the question is why did I not sound like the Marine Corps trumpeter?  Why could I play a million notes and not have all of them combined worth listening to the one single note from the trumpeter?  Because I did not care enough. 

I had another circumstance similar to this when I was a senior in high school.  One of my favorite courses was physics.  I loved solving the problems and having the ability to figure out things.  So I decided to become an engineer.  After my first year of college and struggling through two semesters of college physics, calculus, and other advanced math, I decided to hang it up.  Could I have worked hard even though I thought I was at the bottom of the class in really comprehending the subject matter?  Sure.  But I did not care enough to do it.  I eventually after several changes ended up studying economics and finance, subjects I grew to love.

Celebrity worship seems to be rampant in our world today.  We look at those successful in movies, sports, or business and hold them in high esteem.  They all play notes that are worthy for others to hear.  We spend obscene amounts of money to watch and study these people.  Some of these have overcome tremendous struggles and have triumphed bravely.  Many times, we ordinary folks think that the success and characteristics of bravery they display are only for them.  But we are wrong.  It is for us.

Every one of us has the ability to play a note that is worth listening to; something that can turn the head of everyone and create an actual change in the world.  These change agents, or difference makers often are ordinary people with a dream and the desire to see something through till the end.  It was two ordinary brothers who saw their dream of flying through till they invented the airplane.  It was an ordinary lady who saw her dream through to sit at the front of the bus instead of at the back where people of her race were supposed to sit.  It was an ordinary man who led England and kept their spirit of never, never, never, never giving up in the darkest days of Nazi attacks. 

So the starting point in order to making a note that is truly worthy of others listening to, is to go “all in”.  If I were committed to the trumpet, I would have looked at the Marine player as something I could become and not an obstacle that I could never achieve.  If I had the desire, I could have worked hard enough to make it happen.  As it is, my trumpet sits in a dark corner somewhere in the house.

Going all in sometimes may mean eliminating the path of retreat.  Cortez the explorer, is famous for scuttling his ships once he brought his party to the new world in order to eliminate any possibility of retreat.  The only options came to succeed or die.  When those are your only options, that is the starting place where you can begin to create a note that is worthy for all to hear. 

So the question is what will it take you to go all in?  What changes do you need to make to your job, your character, or your life to set the stage for the world to hear a note they are starving to hear?  Or do you not care enough, like my trumpet playing, to be great?

The Fallacy of Chattel and Account Security

This week, I turn to a lending issue that we seem to have seen a rash of recently.  Many deals we have seen recently, seem to have a heavy dependency upon chattel and accounts as collateral.  Chattel in this case is any type of property that is not real estate and can be moved that is not a titled vehicle.  It can be equipment, fixtures, furniture, inventory, or such items.  I use accounts to speak of any accounts receivable.  I also am not discussing using a single asset that is purchased, such as a crane, forklift, or friction stir welder.  I am speaking of a lien on what may be called “general business assets”.

These items usually have their collateral perfected by a UCC filing.  This presents some challenge as some institutions do not even execute a proper search to see what other lenders may have already used these as collateral.  Occasionally when we review existing files, we find loans where the lender believes they have a first lien on said assets, and sadly, they don’t.  The next challenge is if the UCC filing was perfected correctly.  The final issue is if proper extensions have not been filed for UCCs every 5 years, your filing has expired and you have no collateral.

One factor the lender must consider is how much reliance is placed upon business assets, what kind of assets make up the chattel, how the chattel is valued, and possible loan advance rates.  As the lender first looks at the amount of reliance that the loan relies upon chattel, any other collateral that is available to the loan is also reviewed.  If collateral that tends to have more stable marketable value is available for collateral and that constitutes the overwhelming portion of the collateral, then a lot of scrutiny on the chattels may not be warranted.  If a large portion of the loan is tied to the chattel and other available collateral is skim, a closer inspection of the chattel is needed. 

The asset composition of the chattel is important.  Is there any way to determine an actual market value of the equipment, machinery, or crop outside of what is provided you from the borrower?  How marketable are the assets?  Do you have specialty assets that may not be easily sold to someone else in a liquidation or is the equipment in high demand with an easily determined market?   A specialty asset may provide problems with liquidating the property upon foreclosure.

Valuation of the chattel is the next issue.  A key factor is how this is determined for a large loan having a heavy reliance upon the equipment.  In many cases, we have seen lenders just use the value as presented by the borrower without any third party appraisal.  In some cases, the gross asset value without any consideration of depreciation, is used.  We have also seen cases where not only is the gross asset value used, but no inspection was made by the lender to see what chattel is actually owned. 

Again the appraisal issue is determined if the loan is larger and has a very heavy reliance upon the chattel or the accounts.  Some options may be to check auction houses or get market values from different sources.  In some cases, an equipment appraisal, whether on site or desktop, is necessary.  The value the lender is most interested in is an “orderly-liquidation value”, or the value that would be most likely seen in the case of a structured sale by the lender.  In some cases if the loan is large enough and the structure requires it, inspections may be needed throughout the life of the loan and the ability for the lender to rebalance the loan if there is a collateral shortfall should be in the loan agreement.

Loan advance rates are determined by answers to the first three questions and also loan policy.  It is not always wise to run an advance rate up to the highest acceptable by policy.  For a loan on equipment, generally the highest one will want to advance is 75%.  This number may be lower if the equipment has limited marketability, is special in nature, or would require substantial cost to the lender in a foreclosure.  The age and type of the equipment should also be assessed.  Furnishings, signage, etc. should be at a much lower advance rate, perhaps around 25%.  Inventory advance rates may range from 25-50% depending upon the marketability, valuation method, and inventory turn days.  If there is a heavy reliance upon the inventory, a borrowing base may be used. 

Accounts receivable based loans should be tied to a borrowing base factoring out issues such as concentrations, ageings, retentions, and receivables from sister companies.  Generally, A/R under 90 days old would have an advance rate max at 75% after eliminating the other factors. 

A lender must take a holistic approach to lending on chattel and receivables.  The strength of the company, size of the debt, reliance upon these assets, availability of other collateral, are all some of the factors that go into properly structuring a loan to help best manage the credit risk.   To deceive yourself into thinking you are adequately collateralized on a chattel based loan where the value comes directly from the borrower without any third party valuation or even a lender inspection, is dangerous lending.  If the loan fails to pay, you may see how exposed you are in the end.

The Risk your Member Takes with You

When we lend money, we only focus on the risk of not getting repaid by the borrower. We don’t just focus on the financial capacity of the borrower to repay us, but also, we take into consideration their character too. This is all well and good, but should your borrower or member be doing the same due diligence on you?

Sometimes we forget that we, on the banking and lending side, also present a risk to the borrowers and depositors. It wasn’t until the Great Depression that deposit insurance was created to provide depositors with a basic level of comfort that the government would help honor some deposits. Today, that deposit insurance covers balances up to $250,000. While that may sound like a lot of money to me and you, there are people and organizations that need to keep more than that on deposit, and they do so at their own peril. Those large depositors are betting that your institutions are safe and sound and can pay back those large deposits on demand. And, they are assuming your institution won’t fail in the meantime!

Even when we lend money, the borrower is taking a risk with us. Just like there are dishonest borrowers in the world, there can be dishonest lenders as well. Some lenders may not be upfront about certain loan fees and conditions. When lenders fail to communicate the true cost of the transaction, the borrower may grow upset and feel as though the lender was intentionally misleading them. Some lenders make loans under narrow, specific conditions, hoping that the borrower defaults so the lender may charge higher fees or even repossess collateral, like a prized piece of real estate.

One of the worst situations is when a lender promises a loan will be funded, but then later retracts the offer. Imagine how upset you would be to have a car loan or home loan pulled away from you after your lender said you were good to go. Now the borrower may be in an embarrassing position, where they will fail to honor a contract, or they have already spent money on closing costs, only to not wind up with a loan.

In the business lending world, this is especially important. I once witnessed a bank promise a construction loan to a borrower to build a commercial real estate project. As it turned out, the construction loan was over the legal lending limit of the bank, and that bank failed to find another bank to help participate. Unfortunately, the lender started advancing the loan anyway. When the loan hit the bank’s lending limit, the bank stopped advancing funds to the borrower. Construction would have halted had the borrower not had extra money to help finish the construction process himself, but he was very disappointed with the bank, and that bank had a potential lawsuit on its hands.

It is important to keep in mind we need to exhibit high character standards and professionalism, just like we expect from our borrowers or members. They take a big risk by working with us, and assume we can honor what we promise too.

Annualizing is Nothing More Than Guessing

To use a single data point to determine where a future data point will lie is really nothing more than a guess. It isn’t scientific, and yet, we see this practiced in areas of finance and economics reports to which people tend to pay a lot of attention.

Financial institutions see this problem constantly when they file their call reports. Anything reported on your first quarter call report will automatically be multiplied four times to assume this is the trajectory of the entire year ahead of you. Did you charge of a loan in the first quarter? Now your regulator might assume you will be charging off four times this amount over the coming year. Did you have an unforeseen expense? It will be multiplied by four, and your financial performance report (FPR) assumes it is recurring over the next three quarters. Of course this could work to your advantage if you also realized a significant gain or recovery in the first quarter.

This problem with annualizing data was recently pointed to the Bureau of Economic Analysis (BEA) by CNBC. The reporters at CNBC caught on to a recurring issue where first-quarter GDP numbers continually seemed subpar when annualized, which caused panic and policy concerns on a regular basis.

In April, CNBC released a report showing that first-quarter GDP was consistently lower or “weaker” than the following three quarters for the past 30 years. Economists noted that they attempt to adjust out seasonal variations, which might cause this anomaly in the data, but still a “residual seasonality” exists.

The BEA, a government office, responded directly to CNBC noting it was “aware of the issues” and “is developing methods to address what it has found.” Read more about it at http://www.cnbc.com/id/102695676 .

If our government’s economists cannot effectively forecast the future, then who can? Nobody, that’s who! The problem we must accept is that a single data point cannot enlighten us to where the next data point will lie. At best, we can look at a trend using several data points, but that itself will still only give us a guess; albeit, a more informed guess.

If we want to dabble in the art of financial fortune telling, it behooves us to at least take a logical approach towards forecasting. We want a good span to our data, meaning we want it to cover several relevant periods. One way in which this is approached is to use a trailing twelve-month (TTM) analysis.  This means no matter what month you examine data, you are getting a snapshot of the last 12 months, giving you a true annual year-to-date picture.

Another method to assessing a trend is to look at data points only from the same period.  This is why we might always look at just year-end results. If we want to look at the most relevant month, say May in 2015, then we should not compare it to other year-end numbers, but rather to May 2014, May 2013, and so on.

To summarize, we understand that annualizing data is desirable and well intentioned, but it is a poor tool for forecasting and is a random guess given the unscientific nature of the method. We should pay more attention to groups of previous data points that correspond with the same period. This means seasonality will naturally be adjusted for and will not require complicated adjustments that further mystify a murky guess.

Blame it on ENSO?

We know the Dakotas experience some of the most unpredictable weather in the country (see http://www.mwb-s.com/blog/2014/12/8/dealing-with-the-unpredictable), and this spring has not disappointed us with those surprises. South Dakota had the driest start to 2015 through April based on historical standards, with less than 2 inches of moisture over that period (https://www.ncdc.noaa.gov/sotc/service/national/Statewideprank/201501-201504.gif). And, in Rapid City, we had a high of 84 degrees on March 14. I should probably also mention it snowed two days after that.

Now it appears someone has flipped the switch on us, because our highs can’t climb out of the 50s and 60s in mid-May. On Mother’s Day, May 11, we had over 13 inches of snow. Our month-to-date rainfall is now 6 inches, well ahead of the 3.86 inches we average in May. Climatologist are now indicating this has to do with the onset of El Niño, which is the cyclical warming of the Pacific Ocean that tends to impact the climate on every corner of the Earth.

Formally called the El Niño Southern Oscillation (ENSO), it typically leads to warmer and drier winters and wetter and cooler summers for the upper Midwest. Starting to feel familiar? While these effects are not always certain, they are statistically much more likely during an El Niño.

It is believed the effects of ENSO’s cool-wet summers causes lower corn yields, lower winter wheat yields, and reduces tilling (http://growingsouthdakota.com/features/2015/04/el-nino-will-impact-field/).

Andrew Freedman, science editor at Mashable.com, noted on PRI’s The World that extreme weather is expected with El Niño events, and it is hard to chalk it up entirely to climate change (see the May 26th interview at http://www.pri.org/programs/the-world).

Freedman eloquently explains the media may be quick to link stories of extreme weather events to climate change because it may make for an entertaining news story, but climate has always been variable, both in the short-term and the long-term. He points out that climate change certainly plays a role in some of these events, however, we can’t directly measure how much an extreme event can be attributed to climate change, because these events are typical with El Niño.

What is most important to understand with El Niño it provides a basis for forecasting, so people like ag producers should be well aware of how it will affect them. If producers aren’t heeding the forecast, by now they should start considering it.

And we should remember, each coin has two sides. El Niño isn’t bad news for everyone. While the tragic flooding in Texas is likely a consequence of El Niño, the silver lining is this is quenching a region that had been in a severe drought.  In the Dakotas, we can always appreciate a warmer winter, although it will likely be tough on the skiing industry in the Black Hills.

Another point to remember is all climatologist say that no two El Niño are the same. So while there may be some general patterns that emerge each time ENSO fires up, it doesn’t mean it will be exactly like the last time we may have experienced this.

Creativity Killers in the Workplace

In an earlier post, I defined creativity, as the process by which we solve problems.  Creativity is not confined to those who spend all their time in the laboratory inventing new widgets or those wild artists whose appearance may be way outside the mainstream.  Since part of growing our companies is a constant struggle of finding and solving problems, creativity becomes an essential trait that must be present throughout all successful organizations. 

But, creativity is very fragile and can be easily killed in a company.  It can be killed very silently, often without leadership realizing what is happening.  Killing creativity means we are doomed to be stuck in the same ditch without any ability to reach the highway. 

There are several characteristics of people who enjoy killing creativity in an organization.  These killers are especially lethal if exhibited by the leadership of the group.  The first may be from someone we call “Self-Absorbed Seth”.  Now, this person has to make everything about himself.  If you talk to them, you would think the entire organization cannot function without their efforts.  Teamwork is absent from Seth’s vocabulary and meetings often become about how to advance his importance.  Any creative idea that is worth doing can only come from Seth. 

The challenge here is the organization will only solve problems to the extent of Seth’s ability, since he kills any other idea outside of his own.  This seriously limits the growth of the company.  I once heard a preacher say, “A man, centered in himself, creates the smallest universe possible.”  An antidote to this self-centered attitude can be found in a sign that was on President Ronald Reagan’s desk, “There is no limit to what a man can do or where he can go if he does not mind who gets the credit.” 

Another killer is a person called “Negative Nell”.  This person always throws cold water on the warm embers of a fledgling creative idea, snuffing out the possible solution as quick as possible.  Now, pointing out roadblocks that need to be overcome when a creative solution is advanced is good, but building negative blocks to kill all creativity is unhealthy for the organization.  Often, the attitude a Nell shows, permeates throughout her entire life and being; it is not just confined to the office. 

“Stu Stuck-in-the-Mud” can be another creativity killer.  Stu often prefaces the importance of his opinions with giving a history of his time with the organization or in the industry.  This is to intimidate the idea-giver into discounting his/her thoughts since Stu has more experience than they do.  But allowing Stu to rule puts the organization in a rut and is sure death knell for mediocre performance.  Stu also discourages any big-picture thinking or dreaming since that is out of the norm of the rut he is in.

“Drama Drake” can also kill new ideas.  There is only so much time and energy available to us and Drake siphons off as much as he can with various crises and self-inflicted wounds created by himself.  Molehills become mountains, and mountains make it impossible for adequate time to be spent creatively solving problems. 

“Organization Ozzies” snuff out creativity with the belief that all new ideas must originate from the upper echelons of management.  Those outside the “mothership” or the “ivory tower” could never advance any possible solution of any worth.  After all, the most talented and deserved people are those leading the company.  This outlook first misses most of the problems in the first place as most will be identified by the front line people.  It also minimizes the talent on the front line and squashes the worth and ideas those people have.  Sometimes, solutions that may change the course of a company are within those who do not have a “C” or “SVP” in their title.  For a company to reach outstanding new heights, the value of all of the team should be emphasized and a forum for everyone to express their thoughts should be present.

Ozzie will often cut people off in meetings who do not have the proper title behind their name.  By doing so, brainstorming meetings often become a small shower of those in upper management, when it could become an earth moving thunder and lightning from the entire team.  Ozzie would be better to not advertise an idea generating meeting, unless he is open to everyone sharing an idea. 

Another creativity killer is “Silent Sally”.  Sally will solicit ideas and may even have a suggestion box available for anyone to deposit into, but the ideas will go nowhere.  It is as if the suggestion box has a shredder attached to it.  Eventually, those giving ideas will just quit in frustration. 

“Take-Credit Tim” eliminates creativity by not giving proper praise to those who actually come up with the solution.  He may take credit for himself, or if he is a suck-up, may give credit to those in the company that may help him advance. 

If a leader wants to foster an environment for creative problem solving, he must first see if these various characters are presently killing ideas throughout the company.  He also must look in the mirror and see if he is one of the causes of eliminating creativity.