Some weeks ago I was chatting with the head of business banking of a major local bank about the sad plight of the corporate lending business in the UAE. An experienced banker, especially in dealing with SMEs, he made a remark that evoked memories of my very first training course in credit risk.
“Most bankers have forgotten the five “Cs” of credit,” he remarked, adding, “and the very first C — character, is the least checked and most glossed-over by bankers nowadays”. Now this bank has had a good record in the SME space over the past two years, so obviously he has been doing something right and so we talked on.
Old-fashioned community banking and solid, basic training taught bankers to focus on the five Cs whilst lending money — character, capacity, capital, collateral and conditions. While the last three are the relatively easy ones to analyse and understand, the first two are not.
Most banks in my experience do not delve into capacity too much, and they have completely ignored the first C, much to their detriment. Google “character” and you will see it defined by words like honesty, courage, moral and ethical standards and so on, although brevity in defining this word is challenging indeed.
The analysis of character is complex, easy to ignore, difficult to do and requires courage of character on the part of the analyst himself to make bold decisions and be contrarian if required. In our experience in working with SME owners — and almost always offering my office up as a confessional — I have heard many a tearful, honest, mostly contrite confession of financial malfeasance that would shock most.
This led me to start thinking of some of the businessmen who went bust, or close to that, in the recent past and to reflect on their character flaws if any. And if a banker might have been able to detect the same over time.
Detection of flaws is one thing, but to predict financial misdemeanour on a massive scale requires a vast leap of lack-of-faith. Thinking of three examples, it became obvious that the common factor that led to their downfall was ambition, unbridled ambition on a vast scale.
Was this ambition directed at making vast sums of money, or the creation of a large empire, or to “leave a mark”, we will never know.
But there was naked ambition to grow the business and over time, it turned into overriding obsession, enough to result in completely unethical behaviour. The ability to differentiate between right and wrong blurs and rationalisation knows no limits in this space.
To quote a famous misquote attributed to Machiavelli (he never actually said that)– “The end justifies the means”. A good friend once told me, always look at the intention behind actions.
In these cases it was difficult to figure out what the intention really was, the resultant action, of course, being financial misdemeanour and fraud, resulting in losses to banks. Was the intention to defraud banks? Was it to fool banks into financing a losing business?
Was it to fool banks to continue providing a lifeline since a turnaround was “just around the corner”?
Nobody admits to an intention to defraud anyone. It is quite probable that these businessmen started out with ambition, had good intentions, were possessed of decent character, but somewhere along the way, character was hijacked by greed or ambition.
Here is where it all starts — the unacceptable justifications of wrongdoing, the increasing comfort with grey rather than black or white. Once on the slippery slope of ever-changing ethical principles, the usual script starts playing out — creative accounting, “alternative facts”, forgery, and so on.
The moral of the story for bankers is that it is only too easy to be taken in by numbers, stories and earnest proclamations of good practices and ethics. Bankers need to delve deeply into the true character of a borrower — not merely vide “market checks”.
In the old days we were instructed to get to know the families, neighbours and employees of our customers. Human interaction in non-official contexts was always most revealing. Long conversations on a variety of subjects usually divulges a lot.
Sport was another. We were told those who cheat at sport carry a huge character flaw! This is why one was called a “relationship manager”, those that created, managed and judged relationships. Sadly this role has given way to that of a salesman.
Salesmen do not care about whom they sell to. Only how much.
Experience shows all this about relationship building and judging character is all true. The difference is — does one have the guts to make a decision about a customer’s character, judge that it is poor and stop lending to him?
Character analysis is sadly missing, even more so the ability to diagnose excessive ambition and greed. Ambition is good, perhaps, as Gordon Gekko preached, “greed is good”.
But with a caveat — both need to be tamed by good character.
Knowing your customer takes on a whole new meaning, does it not?
— The writer is the head of Vianta Advisors.