Collection Strategies Adjust to Economy

CU360
March 5, 2010 | COMMENTS

With more borrowers facing hard choices about which bills are most important to them, friendly overtures from collectors can be more effective. More collection agencies are adopting the kid-gloves approach, according to McKinsey & Co.

As a result, collections has evolved into a marketing game, notes Collections & Credit Risk magazine. Consumers have a limited pot of money each month, and issuers know they're competing against other debts, including delinquencies on competitors' cards. “They really want to be in line first,” says Liz Jordan, senior manager at Deloitte & Touche consultancy.

Lenders are experimenting with changes to formulas to determine when they cut some slack to late borrowers, and how lenient to be. “The call-and-collect approach doesn't work as well as it used to, especially if you're competing against other lenders,” says Vijay D'Silva, director of payment practices at McKinsey.

The shift in collection strategies is an attempt to keep certain card members active, in hopes they become profitable long-term customers. Another segment of customers might eventually be written off but still provide the opportunity for a higher level of collection.

The industry-wide move toward settlement offers is “a blunt instrument that reflects the degree of distress in the industry,” says Jim Bramlett, managing director at consulting firm Novantas. And the scale of expanded breaks given to borrowers has been significant enough to put a dent in interest income.

Range of strategies

The nature of unsecured debt has made credit card lenders more sophisticated than other financial companies when it comes to collections. Without collateral, card issuers must rely, for example, on models of consumer behavior.

The number of forbearance strategies for late borrowers has increased dramatically, D'Silva says. Lenders introduced five-year term loan plans, for example, that were not seen just two years ago. One reason is that borrowers increasingly do not have the ability to make large one-time payments.

Increases in “roll rates”—the percentages of late borrowers who proceed from being one month late to deeper stages of delinquency—have prompted many lenders to step up settlement offers. It's an effort to secure some kind of payment before the borrower's financial condition deteriorates beyond repair, or before another creditor claims whatever can be salvaged.

“You need to make some sort of appeal to the person in a way that's going to say, ‘I'm trying to work with you here',” says Allan Mattei, Novantas managing director. “If you can create a bit more affinity between the rep and the customer, you're likelier to get through and likelier to get them to pay what little bit they can in your favor,” he adds.

How far to go?

While lenders are willing to give more ground to troubled borrowers, operational obstacles to implementing wholesale changes to collections—and queasiness over the economics of forbearance—have hamstrung the industry, according to Novantas.

Moving early with large breaks also runs the risk of making needless concessions. People who lose their jobs can find new work, for example, and late borrowers can regain their footing.

And, as in the mortgage sector, where borrowers frequently fall behind again after receiving a modification, there also is much doubt about the effectiveness of concessions.

Improvement in delinquency rates due to lender forbearance could mask credit problems that will emerge later.

Without core improvement in macroeconomic factors, such as employment and housing, industry experts say lenders could experience a default rate greater than 50%.