Transcript

Keesa Schreane: Thank you for joining the Climate Money Work podcast. This is Keesa Schreane. First Republic Bank is the second largest US bank failure. Now JP Morgan looks set to take over most of their assets and deposits, and some people are saying that this acquisition makes sense considering where things are. Yet, conversations still swirl around further impacts on the banking sector, especially increased regulation. And what about the impacts on community development financial institutions, or CDFIs? Is it possible that peril is ahead or is this a time for expanded opportunities?

Today, we'll discuss this with our guest, Amir Kirkwood. Amir is president and CEO of Virginia Community Capital, a statewide community development financial institution, CDFI, that's pioneer in the fields of community development, finance, and impact investing. And you know what? Let's just check out the numbers that VCC has. They have nearly 500 million in assets under management, 900 total projects financed, over 11,000 jobs created and retained, nearly 10,000 housing units financed, and 7.6 megawatts of clean energy. VCC has developed loan funds and tech assistance programs that advance issues such as equity in food systems and economic opportunity for business owners, including women and people of color. Welcome to the show, Amir.

Amir Kirkwood: Thank you so much, Keesa. Appreciate you having us here. Thanks.

Keesa Schreane: Great. So I want to get to CDFIs in context of how First Republic's issues may impact VCC and other CDFIs. But first, just a bit of background. Tell us, Amir, about the basic business model of a CDFI. So how do you acquire your assets under management? And how do you disperse that capital to get these projects up and going, the ones you're developing now such as financing, housing units, and even clean energy?

Amir Kirkwood: Absolutely, Keesa. And again, thank you so much for having me on the podcast. It is really a compelling time for the banking and financial services sector as a whole. So I do appreciate the opportunity to speak here and that you've developed a platform that ensures that we can have these discussions and then really talk about how community development finance works and how it is unique relative to the broader banking world, but also how it fits in and is critical for the work that even the money center banks do.

Simply put, a CDFI is a bank, a credit union, or a fund that seeks to bring investor capital to small businesses, developers, nonprofits, largely because those organizations are seeking to finance economic, social, or environmental change and really doing so at the community level. Many of these institutions were born out of the Civil Rights movement or even earlier eras where there were movements to address underserved communities throughout the country.

CDFIs have been partners to everyone from the money center, financial sector, philanthropies, government, and our fundamental charge is just to facilitate the deployment of capital where that scale that is needed to have that impact is often at the most micro or community-based level. The fundamental sort of capital stack, if you will, of the CDFI is really driven by the type of CDFI. So again, there's banks, there's loan funds, there's credit unions. VCC, which I lead has two, a bank and a loan fund. 

But for the sake of this conversation, I'll focus on the bank. What we do is we take capital from... We are able to, first and foremost, we have equity investors in the bank, individuals, institutional investors who buy common equity shares in the bank just as they would if it were JP Morgan Chase. We're privately held so that it's not publicly traded equity, since it's privately held, but we are equity investors.

The second thing we do is take insured deposits. So we are a Federal Reserve regulated bank, which takes FDI insured deposits. And then we also have some preferred equity as well, largely primarily through the federal government through a program they sponsored about a year ago called the Emergency Capital Investment Program. So you take all of that mix and each CDFI bank has some form of that same mix of investor capital and then you lend it and you lend it to whether it's affordable housing finance, a small business, you might do community solar financing, any number of things that meet the needs of the communities where you serve and also address the impact objectives of the investors in the bank.

So from just a core perspective, if you looked at our bank balance sheet, you would see no difference than you would see at any other money center, institutional, regional bank, or a larger scale industrial bank. And that's part of what makes CDFIs understandable is that we are operating under the same regulatory regime and we are taking the same insured deposits. But the real difference is the mission side. Having your capital have to meet the requirements of the CDFI fund itself means that you are going to basically utilize the overwhelming amount of your capital towards impact based activity.

Keesa Schreane: So what I'm hearing is that there are both institutional investors as well as retail investors. So we talk about the mix. We're seeing both of those who are able to invest, correct?

Amir Kirkwood: That's correct, yes.

Keesa Schreane: Okay, great. Great. So a lot of commonalities and also you have the same regulations, so I'm glad that you pointed out and thinking about that in context of what we're seeing right now, Amir, First Republic is the third mid-size bank to fail in the last couple of months, and according to CNBC, as of Monday, May first, First Republic shares were down 97% as of that prior Friday's close, and we know that JP Morgan is now set to acquire their assets and deposits. Now, do CDFIs, community development financial institutions, do they have the same risks as those other mid-size banks, as the SVBs of the world, Signature Banks, and First Republic? For example, we know that those banks had a high number of uninsured deposits. We also know that some did not have a diversified depositor base, thinking specifically about SVB and the tech industry. And I'm wondering if CDFIs have these issues or similar issues and if there is trouble ahead for them as well.

Amir Kirkwood: Great question. What I would say first and foremost is we are structured in the same way as those institutions. So we run the same risk of having to make sure that you have your assets and liabilities managed in a way that does not create a situation where you have a mismatch between the amount of cost of funds that you have to pay, that's the cost of holding deposits or other sorts of financing, and the rate in which you have to lend out money. And when you think about the issues around First Republic Bank, it was quite simply that they had a mortgage book that was largely built off of a cost of funds that had been building over the quantitative easing years by the Fed that they were not able to make adjustments to in the stress period of the last six months or so.

And as a result, they had a mismatch between their liabilities and their assets in their portfolio. Any CDFI could experience that. And as a matter of fact, a piece of history, one of the original CDFI banks was called South Shore Bank. It was headquartered on the south side of Chicago. It was a model for community development banking. It was exactly the model that was quoted by the Clinton administration. In fact, in 1994 when he sought to create the CDFI fund that supported and sprouted this broader industry, South Shore Bank unfortunately went under during the 2008 financial crisis. And it was for the exact same reasons that many of those banks went under during that period of time. They had a mispricing of their mortgage portfolio. So point being, we are subject to those same realities.

Keesa Schreane: Okay. So what safeguards would you say that you have in place that maybe some of your peers have not had in place or what safeguards are really needed to prevent something like this from happening from your perspective?

Amir Kirkwood: Yeah, I think one fundamental difference is the focus on mission. So we do not lend for the sake of lending purely for the intent of profit. No CDFI does that. Generally speaking, our focus on trying to meet mission objectives in communities across the country lend to our ability to have another factor associated with our risk management. We have the factor number one of obviously all the financial reasons you want to do effective risk management. But the second thing is, you're making these loans to communities that are underserved, that are really dependent upon your capital to be the bridge between success and failure. And as such, you have a different level of scrutiny around portfolio management, around risk management, around just how you engage with communities themselves. We are heavily reliant upon technical assistance or developer assistance or other forms of support to the borrowers in our portfolio.

That's not a normal activity that occurs in money center or regional banking. So these all contribute to, in effect, a form of risk mitigation that does not exist. I would say one other factor is important. Silicon Valley Bank, Signature Bank, First Republic were all publicly traded institutions. So a lot of what was the driver obviously was that they have to do public reporting, and so they have a certain amount of monitoring. They had a risk of a pile on and contagion that led to the deposit issues, the deposit flight issues, and also just generally how they have to report their portfolios. For the most part, the CDFI sector is a privately held world that does not subject itself to market pressures, and in many ways it's precisely so that we can have the impacts that we're trying to have in communities.

Keesa Schreane: So with that said, this is great to hear the risk mitigation piece. When you're mission aligned, it sounds like that's an additional risk factor. So that's another layer, also being privately held versus publicly owned. But there are the same regulations that encompass your work as a CDFI as well as these other banks. What do you see possibly coming down the pipeline in terms of increased regulations? Do you think that's a reality? Is the reality short term? Do you think it's longer term? Are there other factors that need to be considered before we can deduce that that's definitely coming?

Amir Kirkwood: Yeah, it's sort of a timely question because literally two weeks ago we finished our Fed examination and I think the lesson coming from that examination that really feels like it's reflective of the moment we're in is a higher level scrutiny on management and governance. When you think about what happened in Silicon Valley Bank, there's a significant question as to whether A, the organization had appropriately addressed issues of management, including not having a chief risk officer in place at the time. And B, whether the regulators themselves were assertively managing and scrutinizing management and government factors in the bank. We experienced some of those same things in our review and it was not anything I think out of the ordinary as much as it was just a deeper focus on the impact of management, the impact of governance, and then just again, making sure that we're thoughtful about liquidity measures as well. So I think what you'll see more and more is that that is going to be a much more significant element of the learnings that the Federal Reserve and the other regulators are getting from this experience.

Keesa Schreane: Do you think it's going to make it tougher for CDFIs?

Amir Kirkwood: I think not. One distinction that's really important to note is that most CDFI banks prior to the current cycle the banking sector's in, all had been experiencing a challenging gain in really raising deposits. And that's just due to the nature of the work, the change and growth of deposits into a very much, much more of a digital FinTech function than a relationship driven function as it had been historically. And so we had all, as a sector, been dealing with a challenge in raising deposits anyway. You go back to last summer when the Fed first started the rate increases. That pressure then became even greater on CDFIs to figure out how to raise deposits in an environment where the cost of deposits were not favorable for us executing on community development, mission oriented lending and investing activity.

So we had already been dealing with the fact that the deposit challenge was there. What happened with a lot of these major institutions and the regional banks in the last six months wasn't a function of the cost of deposits. So we basically had already began adjusting our portfolios, adjusting our investment strategies to address the reality of what it meant to be in a tight deposit market. So in one sense, what happened had nothing to do with the reality of the challenges we're facing, but that's kind of the problem because we still have to raise deposits in an expensive environment.

Keesa Schreane: Yeah, wow. So with that challenge, with the investment risk that we talked about, I want to shift the focus and talk about something a little more sunny, which are the opportunities. We've talked about the risks. So now let's switch to the opportunities. How do you evaluate investment opportunities? I'm thinking specifically about areas like clean tech industry, clean energy, these are emerging areas. How do you evaluate these types of investment opportunities to know when something is a go versus when there's a little more work that needs to be done before you're ready to fully commit?

Amir Kirkwood: It's a great question. First and foremost, as a CDFI, we are committed to, I think the entirety of a clean energy economy, decarbonization as a strategy for improving communities. I think the point of entry for us though is it has to align with our overall approach towards community development finance. So it is not sufficient for me or our organization to finance solar panels just on homes in a general economy. For us, what we're looking at is the intersection between where climate work is important and it also advances in overall community and economic development agenda.

Think about Katrina, think about Hurricane Sandy, think about events where climate had a disproportionate and longer term impact on low to moderate income communities. That's where a CDFI is often the most valuable partner because we have built our business models to address the needs of financing those communities first and foremost. And then we're able to layer in, well, how does this then tie to a project that might have community solar associated with it, or might have an element of some form of energy or weatherization attached to it, or it may have some need around infrastructure improvement associated with this. So it's really that ability to tie together those two core activities, community economic development and climate as a part of the strategy together.

Keesa Schreane: So if I have a startup and it's focused on climate, maybe adaptation or mitigation, but also there's an element that is clearly focused on serving underserved communities, is there something that's foundational to the business strategy that I need to have? Even in light of having that clear connection to community and economic development and focused on climate, is there something foundational to the business strategy that I need to consider in order to be considered for CDFI's investment?

Amir Kirkwood: I think more than anything, it's just really having within your business model an element that shows that your theory of change or your theory of operation is to truly create longer term impacts in that community. So from a credit and risk management perspective, we look at that company from the lens of your classic CAMEL model that you would have in any borrower. But for us then the next element of that would be if you could add an i to the CAMEL and that would be impact. And we're looking to see what are the set of things you're trying to drive, and then that becomes a differentiating factor for us in terms of financing. So we are looking for businesses that have sound structure, sound strategies, but then how do you then layer in that I in a sense is what I think is the key thing we're often looking for.

Keesa Schreane: One of the things that we talk about is our use of industry trends and sometimes jargon, sometimes acronyms. And you use the word CAMEL.

Amir Kirkwood: Yes.

Keesa Schreane: So I'm going to ask you to just give our audience a bit of background who may not be familiar, a bit of background on what you mean, and then they can figure in implementing the I, the impact part of that.

Amir Kirkwood: Sure. CAMEL is banker language for how you assess at the borrower's risk in advance of making a financing. So capital adequacy, asset quality management. I'm going to look bad because the E, I'm going to forget.

Keesa Schreane: The L?

Amir Kirkwood: The E is drawing a blank, but the L is liquidity. I think the E is the equity, but it's again, looking at the factors that sort of support any underlying business' strength. Our bank is even evaluated on that score by the federal regulators. So those are the key things that you're looking at. If you're doing project finance or real estate... Thank you, Joel. Earnings, yes.

Keesa Schreane: Earnings, oh yeah.

Amir Kirkwood: But if you're doing a project financing, say you're a developer of a project that's going to do community solar project, we're looking at is it secured? Is there property secured as a part of the project? We're looking at the contracts between the energy offtaker and the project itself to look at earnings. We're trying to assess all the factors that ensure that the project would be successful. Because I think any bank would say, this isn't a principle, but when you get to community development financial institutions, we really do put it into practice.

Our objective is never to set someone up for failure. When you look at CDFIs as a whole, our industry probably has less than 100 basis points of losses as a sector in their lending activity because we don't design our work with the idea of failure behind it because ultimately the communities that are most vulnerable by our activity. A loss by a CDFI as a lender has an even greater impact than it would by the normal banking sector because we're often a lender of last resort in some cases, and in some cases we're the lender of first resort because the borrowers may not be able to find access points to financing through the normal banking sector.

So we're the ones to take the first risk off it. So as it relates to, again, climate financing, it really does go down to being able to really truly assess whether the project is viable and what are the gaps between its success. And here's another critical piece of difference between CDFIs and normal banking sector that allows for any sort of borrower would want to note. We often come to the table with technical assistance support. That can come in the form of actual advisory support, but it can also come in the form of capital into a transaction.

An example could be a foundation who we partner with in a local market decides that, "Hey, we agree with you. The priority is to figure out how to decarbonize public housing." So you go through the normal sort of retrofitting on the public housing, but the developer might also benefit from the fact that that foundation is willing to buy down the interest rate on the loan, or they might be able to come in and put up a first loss against the bank that's financing the project itself. So these are the things that CDFIs create access to because of our model that differentiates us often from money center banks that then allows for projects that have a true greening effect to happen because you de-risk some of the core barriers to the transaction occurring.

Keesa Schreane: And just to be really clear on the benefits to an investor, why an investor, particularly an institutional investor, would look at a CDFI as opposed to the other options. Would that be because of lower risk? Would that be because of greater due diligence? What could we solidly give to an investor who's looking at investing in…?

Amir Kirkwood: I would say impact is the number one thing. If you're going to a CDFI expecting the economic returns, you'd go in the broad market, you're not going to get them. The scalability of our work is not correlated in any way to the scalability of regional banks and money center banks. So the number one thing has to be a desire to drive impact. I think in return for you agreeing to invest because of impact, we as a field provide very disciplined risk management. We provide alternative sources of investor capital than just your institutional capital being in the transaction. Again, that runs to how we're able to get philanthropies to often come in. The federal government through the CDFI fund will come in. And so by getting the combination of the risk management, the alternative sources of funding, and then thirdly the technical assistance that we bring, you effectively get to a level of portfolio risk mitigation overall that should enable you to feel more comfortable investing where impact is your number one driving force.

Keesa Schreane: And it sounds like that's pretty much a benefit for retail investors too who are interested in impact investing.

Amir Kirkwood: It could be, and there are CDFIs that have tapped the market of retail investors. Example would be the work done through Calvert Social Impact that has figured out how to create note programs that are bringing in opportunities for very small dollar retail investors as well as large institutional investors to invest in CDFIs and other impact strategies in the field. But the driver does start with your belief, your driver, your goal around impact, and then the work that we do to manage and mitigate through risk.

Keesa Schreane: Okay, great. So I want to end on a note of the ROI. I want to talk about success stories and what does success look like? What sort of success metrics do you use? And if you have a use case that you could give us as well as the cases where something hasn't been as successful. So if we could take a success use case and then really look in a way that would be the counterpoint for that. Other use cases or at least one other use case that has not been as successful and why. It would be great to understand those metrics and what return on investment looks like in the best case.

Amir Kirkwood: Sure. I think probably one of our bigger success cases that we've been able to point to has been our work with the community and direct solar financing in Virginia and in the surrounding DMV area. We have been able to work with local developers who have a desire to bring solar financing to projects throughout the commonwealth, throughout the area relatively successfully. We've grown our portfolio of solar related financing from zero five years ago to roughly 47 million over a five year period of time. And that's been just a testament number one to our commitment of our team internally to say, "Hey, this is something that we can't decouple from community development any longer, and so we need to engage in that." The other part that's made it successful is partnerships. A number of our transactions have been done with green banks and other local government who have been able to bring in some form of capital or facilitate capital, but they've benefited from us being a part of that capital stack or bringing expertise around underwriting.

I think that's an area where we are really proud of the growth of our organization. And I think as a field, CDFIs are really proud of the growth that has happened in our work in decarbonization and climate finance. I think a challenge we all faced is still continuously what is the right set of financing for small businesses, particularly those in Black and brown communities? It's been a challenge. We've had some successes. We had a recent program supported by a few money center banks and local foundations that we called our Economic Equity Fund that has increased the amount of lending to women and minority-owned small businesses, but it never seems to be enough capital. And it seems like there is often a need to first start with some degree of technical assistance and advisory support that it can either be tandem with the lending or proceed the lending activity.

So that is a continued area of commitment for us. Another reason it's challenging is that those borrowers are often the most impacted by predatory lending practices from the higher yielding online lending models and payday lending models. And so we've been trying hard internally to figure out what is the product that we need to create that gives the same structural flexibility that they seem to get from those payday and online lenders, but also more reasonable rates that just are not so extractive of all of the revenue and profitability from those businesses that fundamentally keep them locked into those lending models to the point of bankruptcy or dissolution. So I would say that's the area of challenge that we face.

Keesa Schreane: What makes you excited about the future of the banking sector, but specifically CDFIs? What are you looking forward to? We know a lot about the IRA, the infrastructure that we have coming down the pipeline with the Inflation Reduction Act. What's going on now that gets you really excited about what's going to happen in the future?

Amir Kirkwood: Yeah, I think that in and of itself is an example, but what really is at the core of it to me is the recognition that climate and community have to be tied together and that CDFIs, because of the work we've been doing for the last 30 years formally as CDFIs and many years before that informally, that we have built out the right models to really provide the financing and other supports necessary. And now that the movement around climate finance has built such that it is getting traction with the federal government and with corporations and with institutional investors to want to invest in it. There's a natural synergy between the work that we do and all of those investor's interest. And so what excites me is that we are a natural home for investors who want to find ways to have impact and recognize that impact is not just a global picture, but it's also community based. It's neighborhood by neighborhood, zip code by zip code, and CDFIs are a great partner to get to that type of outcome.

Keesa Schreane: Of course, we're not going to leave without you letting us know if investors are interested in VCC or other CDFIs, what is the best way to get information to get started?

Amir Kirkwood: Sure. I'll start with the industry as a whole. One of the most important ways you can gain knowledge is through the trade organization for CDFIs, Opportunity Finance Network, ofn.org. Really simple. They are the trade organization for a diverse of number of CDFIs. They're involved in the policy issues. They've helped raise capital from institutional investors, corporations, philanthropies, and individuals. So at a global scale that would be helpful because there may be specific markets or communities where you're interested in investing and they can direct you to local partners. For VCC, we are a regional CDFI that has, again, a bank and a loan fund, and so we're able to accept a diverse amount of capital. We are at virginiacommunitycapital.org. You could just type that in and it'll go right to us and we can work with you to identify ways if you have particularly a desire to invest in the Virginia, and that's sort of the Virginia and Appalachian regions as well.

Keesa Schreane: Fantastic. So a lot of great information here. A lot of great information. First of all, thanks for the great insight and really looking at CDFIs in context of some of the other banking issues. We see that CDFIs do have regulation, they're regulated in the same way that the other banks that have seen difficulties are regulated. CDFIs really have a mission focus that's really on looking at climate as it relates to underserved communities, and that's something a little different than other banks, other mid-sized banks that have been in the news lately. CFIs are also private as opposed to being publicly traded, so another difference there.

But also there is technical assistance, advisory support as well as capital and also when there are capital needs, many times, Amir, you pointed out that there is the opportunity to give other sorts of assistance and information in addition to that capital that really makes that relationship even richer. So that support that comes with lending in these situations, lending to many times, underserved communities can make for a richer relationship. So thanks for giving us that fantastic information. Amir Kirkwood of VCC, Virginia Community Capital, thank you for joining us.

Amir Kirkwood: Thank you for having me, Keesa. Appreciate it so much.

Keesa Schreane: Thanks for joining us on today's episode of Climate Money Work. Please follow the show wherever you're listening right now. If you have any questions, feedback our pitches, please get in touch with the team at cmw@shrugcontent.com. Again, that's CMW at shrug, S-H-R-U-G content.com. Now you can learn more about the show at keesaschreane.com/podcast. You can find me on LinkedIn, Twitter, and Instagram. I'm Keesa Schreane, and thank you for listening. Be well.