Mobile Home Park Mastery: Episode 106

Why Banks Behave Like They Do

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In this first of a four-part series on “Park Psychology” we’re going to discuss the reasons behind bank behaviors and how to get banks to do what you want. You’ll see that banks follow a very predictable pattern in approving loans and that you cannot fight these motives but need to embrace them to obtain the desired results.

Episode Transcript

I sincerely believe that banking establishments are more dangerous than standing armies and that the principal of spending money to be paid by posterity, under the name of funding is but swindling futurity on a large scale. Those are words by Thomas Jefferson back in the 1700s regarding his thoughts on banking. Is that fair? Is it accurate? No, not at all.

What happens is people don't understand what banks are all about. And in this, a first of a four part series called Park Psychology, we're going to discuss why banks behave like they do and what you need to do to have a successful banking relationship.

Now the first thing you have to understand about banks, and it took me awhile to figure this out, is that they have absolutely no upside in your deal except the interest rate. That's all they get. Let's say you buy a mobile home park. It's a big turnaround property. You have to fill lots, you have to push rents, you have to clean it up, do all kinds of stuff. You say to yourself, "Well, I can buy this mobile home park for $400,000, and when I get done with it, it'll be worth a million two.".

Well, that's great for you. There's $800,000 of profit to be had. But your bank gets none of that profit. Your bank gets no split of that equity. All your bank has to look forward to in that case would be a loan of let's say $300,000 at 5% interest. So they're going to get $15,000 a year for awhile until the loan either expires or you refinance. So you and the bank really are never aligned in your excitement because you have upside and they don't have any upside. You're willing to take a risk because of the upside.

They have no desire to take any risks because they have no upside. Until such time as banks get a percentage of our deals, which to my knowledge will never occur, then you're never going to be able to get the bank to really understand where you're coming from. Your entrepreneurial, and they're simply not. So what are banks really after? Well, they just don't want to lose money. All they can get is the interest rate. So when you're only getting that little 5% ticker or whatever the interest rate may be, you can't really afford to have anything go bad.

So what a bank wants is they want stabilized occupancy. Why do they want that? Because they're always thinking that their worst case scenario is they have to sell your loan back off to somebody, sell the property, somehow to get their money back. So they want to have stabilized occupancy to know that there's revenue to be had, revenue to pay the bills.

They want some kind of affirmation from the market that everything's okay with your mobile home park. Most banks count stabilized occupancy has been 70 to 80% occupancy, and nothing more magical than that. But what are they really after? They just want know that the deal that you're investing in is one that they can resell if you fail. They also want city water and sewer because they don't want to mess with private water and private sewer if in fact you fail. If they take the property back, the last thing they want to worry about is how you chlorinate water or how you fix a not working packaging plant. City water and sewer is much easier on them, much less stress.

They want to know that you're in a solid market with a big metro because once again, if they get that property back and they have to sell it, they won't want to have feedback from various buyers saying, "No, I'd never buy in that market. Oh no, it's terrible. It's declining population. It's so tiny." They want to have a solid market that they can then once again have an exit strategy in. And they certainly can't have any problems and issues like permits and survey and title. Because once again, if you go bad and they have to get the property and they have to take it out to market and find a buyer, they can't have anything that will stop them.

So the first thing you have to know about banks is they're not risk takers because they get no upside. Remember the old Sam Zell formula shown in his book, Am I Being Too Subtle, of risk and reward in which Zell rightfully states, "You should never take high levels of risk if there's no reward and you should always take higher levels of risk if there's huge reward." Well the bank has no reward and therefore they don't want to take any risk. So that's the first thing you have to know about why they behave like they do, is even though your deal may sound great to you with huge upside, they don't have any. All they get is the interest rate.

The second thing is banks don't know the mobile home park industry. They have no reason to know the mobile home park industry. It's not loan type and variety that they see very frequently. Think about it, most moms and pops never refinance their parks. And since most parks were built in the 60s and the 70s and no one ever refinanced them, there haven't been a lot of loans going down the pike. And they simply don't know that quality of an asset. As a result, they can't see beyond the appraisal. That's all they have to go by. They hire an appraiser. The appraiser says, "Yeah, the property is worth X." They have no reason to question that. They don't even know that the appraisal's correct. They simply don't know the industry. And when you want them to do things that are a little out of the norm, if you want them to count on your ability to fill vacant lots, for example, they're not going to do it because they don't know a thing about how to fill a vacant lot and as a result they're not going to stick their neck out.

Item three, banks are run by committees. There is no personal accountability. There's no person in that bank, no person in that whole loop of you and the loan officer that can tell you a for sure yes or no on your loan. It's not because they hate you, it's not because they're flaky. What's happening is banks, for security reasons, are run by committee. They don't want to have one rogue employee go out and make all these loans that ultimately go bad.

You probably have read articles on that. There have been, in the world of banking, seemingly every three or four years will be a giant news story of someone in a bank that lost a bank $100 million, $300 million making some crazy loan or some other bet, some hunch on something that was completely wrong. Banks hate that.

What banks do is they try and govern by committee and that gives them safety. That way they have to get more than just one person placing those loans. They have to get multiple people, all who give their thumbs up. Outside of that environment, they would be open to massive amounts of risk, which is what banks don't like. Going back to item number one, they don't like risk. They're not risk takers.

So as a result, when you talk to your bank officer, as nice as that person might be, just as cheerful, as confident, "Oh yes, I know we can do this loan," it means absolutely nothing. They walk into that loan committee meeting, the loan committee's having a bad day. They're not really into mobile home parks. And your loan that seemed so sure only moments before is suddenly shot down. That's just the nature of banking. Don't let it get to you, but also don't trust your loan officer as giving you the gospel truth.

He has no ability to commit the bank at all. All he can do is shepherd your loan through the committee and then see what happens. We've had some crazy things happen in committee. I once had a loam in Oklahoma. I went into the meeting where my loam was supposedly going to be approved and then I was told coming out of committee they don't even make loans in Oklahoma. How's that possible? How could a guy who spent all my time and energy building a loan package on a loan in a state which I then find out the bank doesn't even make loans in? Well, that's because they did prior to the loan committee meeting. But in the loan committee meeting, higher ups in the bank committee said, "No, we don't want to make loans in Oklahoma," and the deal was dead. So although your bank officer may be a super cheerful, positive individual, that doesn't mean anything because they don't make the decisions. It's done by committee.

Also, banks have this other feature even beyond their own committees, they have somebody else to even worry about worse. And that are bank regulators, the FDIC, these folks float around going in banks and they go in bank all the time, at least once a year. And they look through all the files, all the loans that had been made. And they look for things that they think look irregular and then they do what's called classify those loans.

Now if a bank gets too many loans classified, what happens is the banking world, the FDIC may say that that bank has to put up additional money because they're worried the bank might fail or something might go bad with all those classified loans. So the reason I'm telling you this is it's very, very important to the bank that you make your numbers, that you hit your goals, that you do all the things you promise. Because if you don't, it's not just going to antagonize them. It's going to antagonize the bank examiners. And these people have no sense of humor at all.

While your bank may trust you enough to believe that you can fill those lots, raise those rents, do all of these various things to increase the NOI, the regulators don't have any such optimism. They don't know you at all. They don't care about you at all. All they care about is the fact that if that bank fails, they will have to bail it out. It will cost them a lot of money. So they're all the time watching as a safeguard over the loans that are made. And the worse thing you can do is to put your bank in the position of getting your loan classified.

So everyday when you're out there doing what you do, you have to always be thinking from the bank's perspective, what do I have to do to keep this exactly online with what I promised the bank? Because if you don't do that, you will soon be not welcome at the bank and not be considered a very good customer. Also, because of all these various reasons, you never want to put your bank in a bad position, ever. Remember, banks are not risk takers. Banks have to answer to a higher authority. Those folks over there at the FDIC. Banks are run by committee. Nobody wants to stick their neck out and the worst thing you can do is to become a risky borrower.

Banks will cut you a lot of slack if they believe you're doing a good job, if you're progressing down the program of what you promised them in the first place. But never put your bank in a bad position by not meeting your obligations. That means you always have to make your payments, and if you can't make your payment, you've got to give the bank lots of advance notice.

Let's assume something terrible happens. Let's assume there's a flood, pestilence, fire, whatever may happen to your mobile home park. Let's assume it will disrupt your revenue stream. Let's assume you may even lose some lots over it. The worst thing you could do is not notify the bank until this has already occurred. Instead, the minute you see something huge that's going to have a monumental shift in that park's revenue coming in the door or costs going out the door, contact your bank, apprise them of the situation, let them know what's happening. They do not like to be shocked.

You're account officer does not like to be embarrassed. Nothing embarrasses the account officer worse than when you don't make your payment, because then he has to report that to his boss and his boss and all the way up the pike, and everyone jointly and severably is very, very upset with you. So instead, always give them advance notice. Banks simply do not like being surprised. Some of us may like surprises. We may enjoy that element of suspense, but banks do not. They never do.

So when you put it all together, what does it all mean? What it means is that banks don't understand our industry and never will, but they do appreciate the concept of making money. They do appreciate a good business plan. They do appreciate somebody who wants to go out there and provide nice, safe, clean, affordable housing. So they're not hostile to our model, but they just don't understand it.

They're trying, but they just never will. But also remember they have no upside. Their only upside is the interest rate that they get. So more than anything else, what you need to know about banks are banks hate risk, banks hate bumps in the road, banks like to live a nice boring life and live for the weekend. And that's what's really important out there when you work with banks.

Remember that they're not like you. They're not entrepreneurial. They're not tried to take something, an old worn out mobile home park and bring it back to life. They're simply tried to make interest on their money and to stay out of trouble. This is Frank Rolfe at our first part of our four part series on Park Psychology. Hope you enjoyed this. I'll be back next week talking about city government and their psychology.