A second look at commercial

by Melanie Mingas12 Mar 2019

With 658 billion reasons to look at commercial lending, Australian Broker speaks to the sector's tops players

Commercial finance most commonly refers to property-secured finance, including development funding, but is also taken to include other asset-backed finance, such as for vehicles, plant and equipment, along with a variety of other finance types, for example debtor, inventory and trade as well as cash flow and unsecured finance.

The total volume of commercial loans in Australia currently stands at $658bn, and this ranges from smaller loans for $5m to $10m and up, to specialist loans for $25m to $50m, and large commercial loans for $50m to $300m.

According to Thinktank CEO Jonathan Street, first mortgages also play a significant role.

“The greatest component of the commercial market is in the first mortgage space, which covers construction and development finance, alongside the traditional financing of industrial, retail, office and other mainstream commercially utilised properties.

These could include childcare centres, medical and professional centres, boarding houses, serviced apartments, motels, clubs and pubs,” he explains.

One of the many implications of the royal commission is that, in order to protect business revenue, brokers will need to conquer commercial lending before July 2020 – and that in itself is set to heighten competition across the sector.

“Brokers have realised the importance of diversification as a means of growing their business,” says Cory Bannister, VP chief lending officer at La Trobe.

“For 2019, what we are seeing is option but a necessity for brokers to safeguard their business.”

He predicts the coming year will be characterised by a sharp rise in commercial mortgages, an extension of the low interest rates seen in recent years, and a rise in returns on non-residential investments.

“The number of commercial mortgages written via the third party channel, which currently stands at around 30%, will inch much closer to the level of residential mortgages” Cory Bannister, VP chief lending officer, La Trobe Financial

La Trobe Financial offers one of the broadest commercial product ranges in the market, catering to the purchase and refinancing of office, retail, industrial and rural property, as well as those looking to secure funds through development finance, or perhaps to transact via SMSFs.

These products also allow for full-doc and alternative income verification options.

“We expect the number of commercial mortgages written via the third party channel, which currently stands at around 30%, will inch much closer to the level of residential mortgages, which currently stands at around 59%.

This gives some perspective as to how large the opportunity set could be,” Bannister says.

The business case

Commercial loans can also be leveraged to help SMEs make ends meet.

Research into the economic impact of Prospa’s lending has revealed that, together with its broker partners, the lender has contributed $3.65bn to Australia’s GDP, helping to support 52,500 jobs in the wider economy.

“Brokers need to recognise that small business owners face unique cash flow challenges that are very different from those of consumers or large corporations and are affected by seasonal trends,” says Matt Bauld, general manager of sales and business development at Prospa.

“To really understand the finance needs of small business, there are lots of educational resources and marketing tools available through partners like Prospa, for those who want them.”

Reporting a “big shift” away from traditional banks and lenders in 2018, Bauld says awareness of alternative lenders is increasing and is set to grow even further as the current climate continues to evolve.

“It’s always been hard for small businesses to access finance, but it’s getting harder,” he adds. Quantifying his observation, the September 2018 Sensis Business Index reported that 30% of small businesses that tried to access funds were unsuccessful.

“Many have been motivated to look for fast, simple and service-driven solutions, and lenders such as Prospa, who put customer experience first, experienced significant growth in 2018 as a result,” Bauld says. Availability is only half the story.

Transparency was also a major focus in 2018, not just in commercial lending but across the broader financial sector.

As a result, last year Prospa contributed to the development of the Australian Finance Industry Association’s Code of Lending Practice, which provides best practice principles and guidelines for the industry with respect to transparency and disclosure.

“Brokers need to recognise that small business owners face unique cash flow challenges that are very different from consumers or large corporations” Matt Bauld, GM sales and business development, Prospa

Digging below the surface of such trends, Thinktank reports that, in the mainstream commercial lending space last year, demand was evenly split between purchases and refinances or equity release, while SMSF lending remained buoyant – a trend that occurred despite the major banks’ withdrawal from the sector in the second half of the year.

“While house prices and housing finance softened in 2018, commercial finance remained in strong demand, with the exception of development finance, which has been consistently trending down over the past couple of years after a massive run up from around 2011 to 2016,” says Street. Consistent GDP growth, low interest rates and high employment all contributed to the strong economic factors that underpinned strength in property, equipment and most other forms of commercial finance.

Additionally, the non-banks continued to lift their market share as the mainstream banks adjusted their credit appetite, pricing and products.

“In effect, this trend invited borrowers to increasingly look elsewhere for better deals, support and service – a trend that is set to continue,” says Street.

Capturing the trend

In the last two years, the market share of brokers entering the commercial space has more than doubled.

Bannister says some recent reports have highlighted as much as a 123% increase in broker participation in commercial, from 1,641 during the October to March 2016 period to 3,668 in the same period in 2018.

But that doesn’t mean it’s plain sailing. “Unfortunately, the timing of the increase in demand-side appetite was met with a shrinking supply side following the constraint on commercial property credit supply from the banks as they looked to simplify product offerings,” Bannister says.

“This resulted in a challenging period for brokers and their clients.”

As one of Australia’s largest non-banks, La Trobe Financial currently boasts a loan book of circa $7bn, originating upwards of $6bn in new loan applications annually.

“Our appetite for commercial lending remains unchanged, largely due to our commitment to the sector, and assisted by our diversified model of funding,”

Bannister says, adding that new market niches are also starting to open up.

“We continue to operate business as usual, stepping in to fill the void where we can by offering brokers solutions when others have turned them away.

The commercial lending landscape has become more solutions focused, rather than price focused,” Bannister says.

A number of factors, including major economic and legislative developments, are set to influence commercial lending over the next 12 months, and Commissioner Hayne’s recommendations are among them.

“With the commission exclusively levelling its focus on coded lending, the consensus view is that commercial lending will not be caught up in the resulting legislative and regulatory changes, which in turn represents considerable opportunity for brokers looking to fortify their business and diversify their income streams,”

“In effect, this trend invited borrowers to increasingly look elsewhere for better deals, support and service – a trend that is set to continue” Jonathan Street, CEO, Thinktank

Street says. Other factors include a strong national infrastructure pipeline and an anticipation of increased commercial SMSF lending by the non-bank sector, spurred by tax incentives.

However, there could be a bump in the road ahead.

“With uncertainty surrounding the policy settings post the upcoming federal election, most notably to do with negative gearing, there may be a lull in economic and finance activity in the lead-up to election time, though history suggests that once a level of certainty around government re-emerges, businesses and consumers get going again whether the outcome is good, bad or indifferent,” Street says.

New-look lending

While strong opportunities no doubt exist – with others set to emerge in due course – commercial lending as a component of the wider lending environment is in for some changes. “The commercial landscape is going to look very different in 2019,” says Bauld, who predicts that growing awareness of alternative lenders and increased competition among brokers and lenders will both play a role. “Residential brokers will need to decide if and how they are going to adapt, and existing commercial lenders will need to prepare themselves for an increase in competition. The opportunity is there for those that embrace it, as is the support.”

“Brokers planning to diversify into commercial lending need to know they are making a smart decision. The opportunities are significant and will help them build a more sustainable business.” While brokers are fully supported by their lending partners, the mechanics of how to move into an entirely new sector are important to remember.

Street explains: “For the most part, originating mortgage-secured commercial finance isn’t far removed from self-employed residential lending in terms of the process and engagement between clients and the lender. It can get complex, but when it does, a good aggregator and a good lender will always be there to help bring it together.”

Meanwhile, Bauld advises that brokers can leverage their current client base to find commercial opportunities as a starting point.

“Brokers may already have numerous clients who also run a small business or know a small business owner that needs access to finance. Diversifying doesn’t just mean expanding a client base; it’s an opportunity to deepen your existing relationships,” he says.

In fact, existing CRMs are an untold source of new client opportunities, and thorough and dedicated reviews of the CRM can provide a strong starting point, according to Bannister.

Firstly, he advises brokers to look for clients who already hold commercial property, and once this has been done the CRM should be mined for self-employed client leads.

Having this information is likely to identify businesses that could be looking to buy their own premises and therefore require commercial finance solutions – or even SMSF structures.

“The opportunities are under your nose. We often see untapped equity sitting in a customer’s asset and liability statement tied to commercial property,” Bannister says.

CRM aside, Bannister also advises brokers to align their services with those of financial planners, accountants, real estate agents and other complementary partners, who are often a good source of referrals.

“Finally, brokers could also target local small businesses by running seminars, which may include topics such as purchasing your business premises through your SMSF; consolidating business debt through refinancing; managing ATO obligations; and business expansion strategies,” Bannister says. “Not only could this initiative drive specific commercial loan originations; it could also help raise the broker’s profile in their local community.”