Innovation in high net-worth lending is primed to be a new frontier in credit.  Rarely do opportunities exist to make waves in lending, but this is one.  Banks and wire houses are conservative and working on traditional lending models that limit borrower options for untapped equity in multiple forms of assets.  There is also a wall between consumer and business lending units so most banks cannot take a holistic approach to a business owner’s business and personal assets.  Several groups working together can, but this takes time, adds complexity and still has its limitations in a regulatory and traditional banking environment.  Coincidentally, both commercial lenders and wealth managers are starting to converge on this space and each other’s turf by changing their offerings.  Non-bank lenders are also starting to offer financing against personal assets, in connection with a business, and certain wire houses focused on wealth management are going in the opposite direction and starting to think about business lending.  Each constituency faces intense direct competition, so naturally they start thinking about new products to sell.  The objective is to be able to seamlessly conjoin both personal and business assets into a unique and holistic lending relationship rather than separate them. 

The demand for a holistic lending relationship is there, especially when potential increases to capital gains taxes might strongly preclude stock sales.  This obviously relates to entrepreneur-owned/non-sponsored businesses who either need more access to capital or prefer to leverage personal assets to finance a business.  It is causing both commercial lenders and wealth managers to re-think their approach to this segment, especially as more banks take a platform lending approach with their clients.  Many entrepreneurs are now choosing to go the wealth management direction for their lending needs due to the lack of covenants and collateral monitoring or desire to simply not have to answer to a traditional lender.  Lifestyle lending is best done against personal assets as the lender is not able to rely solely on the business collateral or enterprise value in addition to or in lieu of personal assets.  It is also tax efficient for the entrepreneur to borrow against an asset vs. sell and pay taxes.  This is clearly not for every business or business owner, but there are a growing number of entrepreneurs with profitable businesses who simply want the optionality.  Some of these folks also are lucky to run cash cows and take significant distributions, which does typically not portend well for lender covenants.

Much of the conservatism in high net-worth lending is meant to protect people from themselves, among other reasons.  As such, consumer lending is not nearly as aggressive and thorough as business lending. By definition though, it is not meant to be as aggressive given the automated nature and fluency of this market.  Traditionally speaking, high net-worth lending is a consumer loan that is mostly conducted by wealth management groups within large commercial banks.  These are consumer loans against stock portfolios, residential real estate and art work, to name a few.  Historically, these loans were primarily for personal use whether to buy a house or a finance a lifestyle so business owners did not need to be cash heavy.  Another aspect to mention is that many business owners continue to keep their personal assets separate from their lending relationship. Those that do combine business and personal assets still deal with very separate groups that follow different lending rules – business vs. consumer.

Why is this mature business primed for change?  Simple, this business is run from a consumer-lending perspective rather than a true asset-based lending perspective. In fairness, most of these loans are for lifestyle, although a fair amount are for business purposes.  Think of the complex asset-based business underwriting that goes into 85% against eligible AR and 90% against NOLV inventory. Then compare to the simplicity of 50% stock margin lending against highly liquid stocks.  Stock margin and RE lending are to consumer lending at banks what AR and inventory lending areto asset-based lenders, except the asset-based folks go much deeper into much more complex and illiquid collateral.  While this might not be a completely apples-to-apples analogy, the similarities are there, except there is a lot more untapped equity on the consumer side. To avoid doubt, this conversation is really aimed at business banking types of clients with smaller-dollar and less complex borrowing needs.

Where banks keep private banking units separate and hope that cross-selling works, wealth management firms have one quarterback that takes a 360 view of all of their clients’ needs.  So, if a client has all their banking with a bank, it certainly makes sense to consider the entire platform, but the opposite is true too. If a client has a large wealth management account and simple business-credit needs, then consolidating with wealth management starts to become appealing.  Cross-selling definitely works, but it comes with complexity. To contrast, traditional wealth management firms, not associated with or owned by banks, are realizing the importance of providing business lines of credit and non-bank partnerships.  Regulatory issues and fear of bad press certainly keep banks from conjoining accounts, but this is where the non-bank crowd, including firms like SG Credit, are seizing the opportunity.

Banks don’t get paid to be aggressive on margin and residential real estate lending; nor do they feel comfortable conjoining assets into one borrowing base.  In contrast, asset-based lenders are trained to go deep into business collateral, very different when dealing with personal assets.  No bank or wealth management firm is going to be put out of business from non-banks entering this space, however, the market is there for firms that can take a true holistic approach to an entrepreneur’s business and personal needs. What is clear though is that entrepreneurs want the flexibility to combine their business and personal assets and have them treated as one.  This is truly a new frontier up for grabs and we are going to witness the land grab in real time.  The only thing that is constant is change, so expect to see more innovative lending options for entrepreneurs, especially asset-rich, cash poor ones.