How I Learned About Small Business Banking The Hard Way

When I started my first company – a billboard business – I started off with a bank loan from a local bank. It was difficult because they really didn’t understand my business or have much interest in learning it, but it was small loan and so it made it through the loan committee. As I kept building more billboards, I kept borrowing more from that bank. And over the years, I ultimately exceeded the bank’s maximum credit for one borrower, and they told me that they would sell my loan to another bank that had a higher maximum, so I could keep borrowing.
That bank happened to be a very large regional bank in Dallas – and I was about to learn about banking the hard way.
About a year after my loan was transferred from the small local bank to the larger, regional bank, the new bank failed. It was taken over by the U.S. Government, via the FDIC. And here’s what I learned from the experience.

Banks Can Fail – No Matter How Rich They Pretend To Be

Whenever you go to a bank, they appear to be solid without a care in the world. Mahogany paneling and marble floors. But all that stuff is a veneer – a bank is just a business and runs on a knife’s edge between success and failure on a day-to-day basis, just like any other business. You have to realize that a bank makes money by paying an interest rate to its depositors, and its own debts, and then loaning the money at a higher interest rate. So if it has $10 million in deposits that it pays 2% to, and then lends it to businesses at 8% interest, then it makes $10 million x 6% = $600,000 before overhead. Sounds easy, right?
But what if the interest rates that it has to pay start to escalate? Right, the income plummets – or vanishes. It can’t raise the interest rate significantly on loans it already has on the books, so it does not have much room to maneuver.
That’s only half the problem. A bank can go broke much faster when you add in loan losses. When a borrower cannot afford to make his loan payments, a bank forecloses and then re-sells the asset and has to write off the loss. A house loan that was $400,000 and then is sold at auction for $200,000 means the bank just lost $200,000. And in 1989, that’s exactly what happened to my bank. Not only had interest rates risen on deposits, which hurt bad, the death blow was spectacular loan losses that they could not cover.

Follow The Health of Your Bank

You can follow the health of your bank through a resource called the Sheshunoff Ratings System. I was able to access this at the Dallas Public Library – it’s far too expensive for an individual to subscribe to. It rates every bank’s financial health on a 1 to 100 basis, where 1 is the worst. My bank’s score, prior to its failure, was down to a -0-. Not that you can do much about your bank’s imminent failure, but you can at least be prepared for it.

The Best Way to Win When Dealing With A Bank Is To Be Totally Uncooperative

When the bank failed, they demanded that I repay my loan in full within a few days. This was completely impossible – there was no way at that moment you could find a commercial loan at any bank in the U.S. So I talked to other businessmen who had similar issues with their banks. The unanimous response was that I should tell the bank that not only would I not be able to pay them back right now, but that if they stopped taking my monthly payments (bear in mind that I was 100% current on my loan) I would sue them for damages. The best advice came from a guy who had owned the high-rise office building my office was in. He told me that when the building had gone into foreclosure (at that time, every high-rise office building in Dallas was in foreclosure) the bank had the right to come after him for the deficiency between his loan amount and how much the building sold for on the courthouse steps. So he told the bank that he would take every dollar he had in the world and give it to a law firm and tell them to sue the bank and keep suing them for years until the money ran out. Or he could just give them the building back and walk away from the mess. They opted for the latter.
And that bluff worked. They would call me about once per month and tell me that they needed me to bring them a cashier’s check for the entire amount of the loan, and I would tell them the same story: I am current on my loan, I am going to keep making the required payments on schedule, and if you mess with me, I’ll sue you and tie everything up in court for years. That argument kept them at bay.
In fact, it kept them at bay for so many years that I was ultimately able to find a new bank and pay them off.

The Weak Spot For Banks Is Litigation

I think the reason that bluff worked so well, in retrospect, was that banks are terrified of legitimate litigation for two key reasons. The first is legal fees. To go to court costs a ton of money, and banks normally hire the most expensive attorneys. So even though you can file a lawsuit for $100, it might cost the bank $10,000 to respond to your suit – and hundreds of thousands of dollars if it goes to court. Banks hate to throw good money after bad.
But I think the bigger reason is that juries hate banks. There’s probably not a single individual in America who is going to be able to be impartial in any case that involves a bank – they’ve all got their own horror story. So for a bank to win a lawsuit is extremely difficult, as just about every jury is going to go for the common man, regardless of the facts. Just look at what happened to the lawsuits regarding mortgages in the U.S. When it went to trial, the judges and juries turned the tables on the banks, striking down a concept called “robo-signing” and tearing apart the entire bank foreclosure system.

Better Yet, Just Don’t Get Into Trouble

There is a crest in a historic ocean captain’s house in Charleston, South Carolina, that reads “Anticipation is Better than Vengeance”. What that means is that you are always better to avoid problems than to have to try to battle them. So make sure that you only borrow money when you can pay it back, and never grow too fast with debt when you can grow slower through cash flow. Be sure to be cautious in everything you do, and try to minimize the need to borrow. And watch your bank closely, and make sure that they are healthy – if they start to get weak, try and move banks before everyone else catches on.
But sometimes, no matter how hard you try, your loan can get in trouble. So don’t just give up. Fight it out, and you may just be able to beat the banking system. I did.