Developing and Updating an Environmental Risk Management Policy: It's Time for Bankers to Assess and Manage Environmental Risk in a Consistent and Effective Way. the Best Approach Is to Develop and Implement an Environmental Risk Policy
Haberlen, Jamie, Pollard, Derek P., The RMA Journal
Just as nature abhors a vacuum, risk managers despise unmitigated risks. Unfortunately, our urbanized, industrialized, and mechanized lifestyle is rife with risk--potential hazards are built into our factories and homes, parks and farms.
Environmental risk is now an element of credit risk; a borrower's cash flow and resources are vulnerable to the liabilities of environmental pollution and degradation. It's time for bankers to assess and manage environmental risk and ensure that they do so consistently and effectively. They can accomplish this by developing and implementing an environmental risk policy.
While the process of creating a complex document like an environmental policy may seem daunting, the job is quite manageable once you know what to include. The following guidelines for writing an environmental policy have been collected from the trial-and-error experiences of many banks. Take advantage of their efforts, and you'll soon be on your way to having a clear, effective environmental policy of your own.
To manage environmental risk, you need an environmental policy. Contaminated property securing a loan transaction can expose the lending institution to direct liability for cleanup costs as well as probable litigation. It can cause buyers to default if they are forced to divert cash flow to pay for cleanup and, in the case of foreclosure, leave the bank with a property that may be difficult to sell. In addition to the credit risk, environmental issues can damage a bank's reputation, brand, and image.
Consequently, regulators like the Federal Deposit Insurance Corporation (FDIC), the U.S. Small Business Administration (SBA), and the Office of the Comptroller of the Currency (OCC) require banks to screen properties for environmental risk as part of the underwriting due diligence and the bank's core credit risk management process. Most importantly, a formal environmental risk management policy protects your bank and its customers.
Now that you know why you need an environmental policy, the next step is to decide what to put in it. Begin by reviewing your bank's business objectives and appetite for risk, especially the environmental risk associated with a given transaction.
Look at the types of lending practiced by your bank's business units and the markets served by your lines of business. Any transaction secured by real estate is prone to environmental risk, and certain types of business activities are environmentally riskier than others. Your bank's appetite for risk will influence its willingness to lend to environmentally sensitive businesses and give you an idea of its preference for real estate collateral. Some lenders tend to be risk averse while others are willing to accept some risk in order to build market share or delve into new markets. The distinction should be accounted for in the environmental policy.
John Rybak, environmental risk manager of $132 billion BB&T, based in Charlotte, North Carolina, says a lender can determine a bank's risk tolerance by asking management how much money they consider material in the event of a loss or write-off and whether they are willing to take contaminated collateral. "If your bank decides to lend on contaminated properties or to high-risk industries, you'll need a trained internal staff or a strong relationship with an outside vendor, such as an environmental professional or lawyer," he warns. "These professionals can help solve the issues that come up in lending, foreclosure, or both by helping you evaluate and manage the risks or remediate as necessary."
Another approach is to review defaulted assets with environmental issues and consider what you could have done at origination to avoid the risk. The answer will likely confirm that some basic investigative tools, such as a site visit or a government records search, might have uncovered enough risk to decline some of these loans or to require some remediation effort to clean up the real estate collateral. …