Recently, industry experts sat down at Cili Restaurant in Las Vegas to discuss Nevada’s banking industry, including loans, effects of the slumping housing market, the evolving commercial market, workforce issues and competition. Connie Brennan, publisher of Nevada Business Journal, served as the moderator for the event as part of the magazine’s monthly Industry Focus series, which brings industry leaders together to discuss issues pertinent to their professions. Following is a condensed version of the roundtable discussion.
Connie Brennan (Nevada Business Journal): What are some of the challenges your industry is facing?
Steve Stratton: The biggest challenge right now is that there are too many loan dollars chasing too many deals.
Mark Daigle: In terms of challenges, certainly margin compression is one I’m sure everybody is facing. Colonial has been fairly stable, but addressing the rising cost of funding that has been a difficult undertaking. In terms of expanding a retail franchise, the cost and availability of land, as well as the time it takes to build, creates several challenges when attempting to identify new locations.
Bruce Hendricks: A challenge for us is that, as a result of rising construction and land costs, we have had to curtail expansion plans for our branch franchise. Two years ago, we could build an office for $2.5 million, and now that same office is costing us more than $4 million.
Jim Howard: The cost of funds is certainly an issue. We have the loans we need in the range that we typically accomodate, but funding them is a problem for us at this point in time, and I’m not sure exactly how to address it without compressing the margin.
Mike Rutherford: Because we are a small community bank, our biggest challenge is our size. Our lending limit is about $3 million and trying to find construction deals to finance within that range is a challenge due to the increases in construction costs and land development costs.
Stuart Olsen: The interest management margin and margin compression are big challenges, as well as finding good quality loans to fund.
Jackie DeLaney: In addition to the margin of the loans and too much competition, another huge challenge is finding talent in this market.
John Guedry: We’re dealing with interest margins, personnel shortages, cost of facilities, cost of personnel – all those factors plus the economy have created challenges for all of us. The interest rate market and overall housing market has slowed things down. The commercial market is starting to feel the ripple effect.
Kathy Phillips: More banks resulting in more competition have made it a lot more challenging for us.
Brennan: Explain spread and spread compression.
Daigle: In terms of banking, spread is the difference between what we’re earning on our assets and what we’re paying to fund loans. It’s primarily the difference between the loan rates and deposit rates. In a market where you have rising interest rates, as well as highly competitive loan pricing, you have a situation where loan rates aren’t able to increase as quickly as the cost of funding those loans on the deposit side. Spread compression occurs when loans are funded with a short-term funding source and higher fixed rate, and short-term rates rise. We have seen deposit costs increasing at a faster rate than the rate we’re earning. I don’t believe there is a bank in the country that has had an increase over the last 12 to 18 months. It’s a real issue in terms of managing the overall profitability in the business.
The Housing Market
Brennan: How has the slowing housing market affected your business?
Howard: We are really starting to see the ripple effect. I don’t think that the market has hit rock bottom yet, that may still be six months to 12 months out. The subprime lending loans that are now repricing have depleted people’s disposable income. So, the overall effect of this is really starting to push the economy in a negative way, and it’s going to continue for a period of time.
Stratton: When I first moved here, $20 billion worth of projects were planned on the Strip. Today, depending on what number you be ieve, $30 billion or $40 billion are planned, so we still have the engine that’s going to drive the market. Residential is really struggling, but the Valley still has the migration, whereas many other places don’t.
Daigle: Another factor is the migration of people moving into the center of town. We’ve coined a phrase, “heads in beds,” because there are a lot of rooftops out there that don’t have any heads sleeping in the beds at night. I think everyone hoped that the investor market was going to happen more quickly than it did, and now we’re seeing the fallout of those investors who can’t carry it any longer, which is causing foreclosures. Again, it’s a situation where the builders are still building, but they are managing their inventory levels.
Howard: Then there was the wild card when all those landlords performed apartment-condominium conversions. We had all these new condos on the market throughout Southern Nevada, and it was pushing the renters out into other places.
Wisman: Well, Nevada is not unique – look at Florida. This has happened to banks there many times when there was an influx of people from the north. They had the same growing pains Nevada is having right now and they followed the same teaching principles. Bankers in Nevada need to get together if they want to solve the people problem. We just have to address it as a group rather than as individuals.
Olsen: I would add that it’s an affordability issue, too. I mean, you have people moving here, but if they can’t afford the homes, then we’re not going to solve any problems. Right now, the subprime market is falling apart and it’s not going to be easy to get financing for these people. Looking at it from a banking standpoint, what concerns me is the number of banks that have made a large amount of land loans, expecting that land to go into production based on the number of new housing starts that we had two or three years ago.
Daigle: As we see more migration from areas other than California, it will become more of an issue.
Rutherford: You’re absolutely right. If you are talking about California to Nevada, that’s a big thing. But for those who are moving from regions with depressed or stagnant housing prices, they will face a huge disparity in the price of housing when they reach Nevada.
Daigle: It is really an issue of affordability: a service worker, or a dual-income household earning $80,000, can’t afford the median home price. We lost a lot of our rental properties to condo conversions. That market has slowed and now we’re seeing rent continuing to creep up. That’s allowing apartments to be an economical development alternative once again, based on those costs. We’re also seeing more people considering apartment development, or apartment investors who come into the market and recognize that Nevada currently has a shortage of apartment inventory. So we’re seeing continued demand. It’s just shifting in terms of where it’s originating. Plus, all of that money that is spent down on the Strip does have a trickle-down effect. So I think the employment will still be good. It’s just a point of whether or not wages will increase enough to keep pace with the purchasing rate of houses being built.
Brennan: Are any of you nervous about the commercial real estate market?
Olsen: Well, the pricing is down, which exacerbates the margin compression problem that banks are experiencing. We’ve got a lot of funding conduits dropping that were role models. They used to max out at $5 million and above, and now they’re getting down to a $1 million limit for financing commercial properties. That market segment used to be the bread and butter of community banks. Due to the flatness in the yield curve short-term rates are the same as long-term rates and that just puts more pressure on the margins. But as far as the commercial real estate market, there is still a lot of office property out there that has been empty for months. Projects in good locations will be fine, but some projects never should have been carried out. Those are the ones that will cause problems.
Stratton: On the office side, we have submarkets with vacancy rates of 4 percent rates and some with vacancy rates of 22 percent rates. It just depends.
Hendricks: A lot of this pricing is being driven by competition as opposed to project location and quality.
Guedry: We have been getting lower deals. The cash flow is not as strong as it was before. In relation to the cost of the project, you’re not getting the offset that you used to, so cash flow from that project has got you pressed. It is not as strong of a market as it should be. We have very low vacancies. Vacancies continue to rise in certain projects, putting pressure on the already thin margins that go into these projects, as do the lower yields of lending.
Delaney: We have a lot more competition now and it’s not just from credit unions. We’re talking about conduit market companies.
Daigle: Hedge funds.
Wisman: There’s this stress debt investor company moving to Las Vegas in the next few weeks and they have 2,200 people signed up for it. The company is all about picking up problem lines and problem projects. In banking, we used to have to work out the problems. Now all you have to do is hold onto a project and somebody will give you 85 cents on a dollar for it, where you couldn’t sell it for 50 cents on a dollar a year ago.
Phillips: It’s going to take a lot of discipline in our industry to keep underlying improvements and not get too competitive in terms of pricing.
Guedry: I think you are doing a disservice to the market and to your clients if you stretch on something, knowing it isn’t going to make sense. Sometimes there’s a temptation to add marketing allowances above and beyond the economics warranted for a marginal project. You’re really not helping your clients by putting them further into debt on a project that’s ill-advised in the first place. You’re better off telling them you want to pass on it and why. I don’t think land prices, labor costs or material costs are going to come down in the near future. I think the projects being built on the Strip, along with the area’s independent growth, will continue to attract new residents. They are just going to have different expectations.
Daigle: You have to keep in mind that the banking industry ignored the hard money lending industry, and consequently, bankers went crazy over-financing those deals once they began doing them. For example, if a homebuilder was required to pay 15 percent to 20 percent cash equity into a project and elected to walk away from it, the investor was still playing on OPM (other people’s money). Today, loan pricing has become much more competitive. This market was not a top tier market for most lending institutions or conduit type lenders. But, the market gained credibility with the influx of new operations in recent years – whether it was a low-production loan office, or somebody acquiring a bank and putting some pricing pressure on us. But if you compare the net interest margins in the banks in Nevada with those of a stronger market, we still rank high, comparatively.
Delaney: Market areas with higher margin costs seem to have lower labor costs than we do. Even if our net interest margin is higher, the bottom line is, we’re still struggling to stay ahead of the national market.
Olsen: We’re losing our edge. We used to have an enormous advantage here. That’s one of the reasons Las Vegas worked so well. It’s just getting tougher.
Brennan: How much of a problem is finding qualified employees?
Daigle: It’s a huge problem.
Stratton: So many people in our industry have never worked out a loan.
Delaney: They have never been in the downturn of the loan cycle.
Stratton: That’s right. And, we have this huge population of lenders who have never had to really roll up their sleeves and work out a loan. I think it’s a problem, and when the cycle really changes – it’s going to be a big problem.
Delaney: The actual quality of applicants has gone down. Banks are receiving a lot of applications, but they’re not getting groups of people approved as easily – there’s a lack of experience.
Wisman: They want one person in there who has been through the ’80s – someone who has been through the downturn.
Guedry: I think it’s going beyond just experience. I think that’s a very key point, but it is getting harder to get an educated entry-level person. I have seen applications where people can’t spell words properly, and they’re applying for jobs that require a great deal of writing. I think it is more of a generational thing. They want so much more but don’t want to wait to get it. Their expectations are not in line with their experience or their abilities. There are a lot of reasons why it is becoming difficult to establish a good workforce.
Brennan: Do you have training programs for new employees?
Guedry: Training isn’t like it was 25 years ago when we let the big banks train entry-level employees. We are trying to find positions that require a certain amount of experience before they become proficient in what they do. If you have someone who works hard and is very bright, you try to promote them fast and grow them inside the bank, instead of looking at other markets. We lose a lot of money recruiting good employees and then losing them to other banks.
Hendricks: We also have become much more inwardly-focused, but you have to make sure you follow through and invest in your best employees because everybody else is going to want them too. We have had to focus on more internal training issues as much as we can.
Wisman: I just hired a full-time training officer and we only have 36 employees. I have a full-time trainer for just that reason – to invest in these people and give them the training. We chose the person in whom we’re going to make that investment – we want somebody who is committed to us. Our bank rewards ingenuity in a lot of formula-type situations – it’s more of an entrepreneurial environment. We look for that person who is finding a way around the problem rather than applying the old standard formula. It’s just a different way to handle a different generation.
Brennan: Is the staffing issue local or national?
Phillips: It’s a national issue.
Howard: But the problem is they are being trained to sell credit card applications and they don’t care if someone is approved or not. If you hire someone just out of the college, make them a branch manager, give them unbelievable goals and promote them if they make those goals, in six months they quit or get fired.
Phillips: It is a challenge to keep them motivated and productive while watching your margins.
Guedry: I think it’s a generation issue on the national level. On the local level, we have high school graduates, and in some cases, high school dropouts wanting and getting jobs that pay far more than we can pay in an entry level position. I mean, there’s another 35,000 or 45,000 rooms being built on the Strip over the next 18 to 24 months. These casinos will be hiring valet parking attendants and baggage handlers who will be very well paid. I can’t say that I fault the high school graduate who’s accepting that kind of offer. We just have to figure out how to reward the right people to enter our industry.
Daigle: When I first came here, I called UNLV to start in intern program with them and they said, “Well, we appreciate the interest and the support, but the problem is we’ve got students working as cocktail waitresses making $65,000 a year or valet parking attendants making $50,000. How are you going to talk them into $8 an hour for an internship?”
Guedry: There’s nothing we can do. I guess the twist too is our industry’s grown pretty rapidly and we need more personnel than we have ever needed before. While it’s nothing new, it’s more difficult to find a large number of people with the educational background and desire to commit to an industry that will take a period of time to get to a compensation level that they appreciate.
Wisman: We can’t solve this problem on our own. We need to work together as a group.