Most of the banking industry has several years to formally adopt the current expected credit loss accounting approach, but that will not stop investors and analysts from holding these banks to the new standard sooner.
CECL requires institutions to reserve the expected lifetime losses of a loan on the day it is originated. This differs from the existing method, which records losses when they become probable. Some banks will have to adopt the new standard in the first quarter of 2020, but private companies, not-for-profits and certain small public institutions can delay implementation until 2023.
According to an S&P Global Market Intelligence analysis, most banks will qualify for 2023 adoption, but the institutions that have to adopt in 2020 control over 90% of total U.S. banking assets. All credit unions also qualify for the delay.
Earnings may drop at 2020 CECL adopters, experts said, but analysts and investors will likely account for CECL in their evaluations of traded small banks that do not adopt the standard early.
"You may be 'off the hook' on CECL adoption for two years, that's the good news. The bad news is everyone's going to apply the same logic and judgment to you," said Christopher Marinac, an analyst with Janney Montgomery Scott.
Gregory Norwood, a managing director at Deloitte & Touche LLP who is also part of the firm's CECL leadership team, agreed. Investors will have to "reconcile" banks that are not using the standard with those that are in order to compare earnings outlooks. "That's a tough conversation to have, the kind of 'what if' conversations. And investors have to do that," Norwood said.
Community banks may be expected to hold extra reserves even without formally adopting the standard, Marinac said. "If everybody thinks that 20 basis points of capital is the general hit, then they're going to ding you 20 basis points, whether you like it or not," Marinac said. "Whatever your ratios are, you might as well just lop off 20 basis points."
Some community banks may choose to adopt CECL early. This will allow them to adopt the standard on their own schedule and avoid waiting until the last minute, Norwood said. He also expects bankers and trade groups will "get smarter" over time and find simpler ways to adopt and implement the standard, making it easier for small banks to get on board.
Banks with higher percentages of longer-term loans on their books will take a bigger hit from CECL, Marinac said. He said CECL may encourage some banks to make less credit available in the case of an economic downturn, but he does not expect these loans to move to banks that do not adopt the standard.
"That's the inherent problem of CECL, is it's...the term is 'pro-cyclical,'" said Marinac, meaning that less credit will be available when times are bad since banks will have to reserve more than under the current method.
Some banks may "tweak" lending for CECL, Norwood said, but he does not expect them to make large adjustments to lending portfolios. However, he does think CECL will impact bid prices in M&A. To account for CECL, banks must take an extra mark on loans if the target has not already reserved for the full life of the loans.
Banks that have to adopt CECL will remain competitive buyers, Marinac said. "If you are a bank looking to buy another bank, you have to know on the front end, 'what do I have to do to this reserve?' and then account for it, because at the end of the day it all comes down to price," he said.
Some banks that are looking to acquire may adjust their economic forecasts prior to buying so they have to reserve less on the target's loan, according to Marinac. "Banks can game the system, and they absolutely will," he said.
Overall, Marinac expects CECL's impact will be minimal, so the differences between early adopters and those that delay will also be limited. Credit problems, M&A activity and earnings will remain "way more important than what is frankly a nuisance" of CECL, he said.