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• Ownership of assets is similar to capital and collateral in the c’s of the credit . Manufacturer must have modern machinery and equipment if they are to be competitive producers. • Retailers must have a stock of merchandise and attractive buildings and fixtures if they are to attract customers • Credit will not be supplied to business concerns unless capital has been supplied by the owners to support the debt . The net worth of a firm is one measure of its financial strength • It is often one of the principal determinant of the amount of credit a bank is willing to make available to a business borrower • Consumer loans are frequently secured by assets of the borrower . • If the value of the pledged assets has not depreciated below the unpaid balance of the loan , the borrower has a strong incentive to continue
the demand for the product . • borrower may have good character . but economic conditions can render the extension of credit unwise • The economy is subject to short and long run fluctuations that vary in intensity and duration • A knowledge of what is happening in the industry is very important – changes in competitive conditions . technology. the lender will less likely to act favorably on credit application . an apparent ability to create income . and distribution methods • If a loan applicant is not performing a function basic to the operation of the economy . and sufficient assets .Economic conditions • Economic conditions affect the ability of the borrower and the lender.
means not only the willingness to repay debt but also a strong desire to settle all obligations within the term of contract • A person of character usually possesses attributes such as honesty . but character is a difficult to evaluate • The past record of a borrower in meeting his or her obligation is usually weighted heavily in evaluating his or her character for credit purposes .as it relates to credit transactions . industry . integrity .Character • The concept of character . and morality .
for the customer ‘s ability to repay is primarily dependent upon his earning capacity . and by earning s.Capacity • It refers to the ability of the potential borrower to repay the debt when it falls due . • The repayment of loan may be made by the sale of the assets . and is indicative of the borrower’s competence to utilize the loan effectively and profitability • This is a very important variable of credit analysis . by borrowing funds from others . banks are always interested in loan repayment out of earnings because the repayment of the debt by sale of assets is an expensive and time – consuming process. and may strain the banks relations with the borrower .
with special emphasis on tangible net worth and profitability .Capital • It represent the general financial position of the potential borrower’s firm . The net worth figure of the business enterprise is the key factor that would determine the amount of credit that would be made available to the borrower • The lending officer has to determine the amount of immediate liabilities liabilities that are due for retirement and the relation these bear to the firm’s available assets • A true estimate of capital can be made if the market value rather than the book value of assets is taken into account .
Collateral • it is represented by the assets that may be offered as a pledge against the loan . Collateral . thus . • The collateral in the form of pledged assets serves to compensate for a deficiency in one or several of the fisrt three “c” . serve as a cushion or shock absorber if one or several of the first three “ c” s are insufficient to give a reasonable assurance of repayment of the loan on maturity .
beyond the control of the borrower • Economic conditions include all those factors which have a bearing on the economic processes of production . or may be . distribution and consumption . • Borrowers may have a high credit character and potential ability to produce income . but the existing or ensuring conditions may be such as to render the extension of credit imprudent .Condition • It refers to the economic and business conditions which affect the borrower ‘s ability to earn and repay the debt and which are .
stability of employment and resourcefulness . skill . health and energy . sale of assets . and borrowing from another source An individual power to generate income also depends on such factors such as education . it is essential to evaluate the borrower ability to earn a sufficient amount to make the payment Debt are paid from 4 sources : income . sale of stock .Ability to create income If a loan is to be repaid from earnings .
character emerges as the most important factor • If the borrower is of poor character . such as ability to create income • Over the entire spectrum of credit analysis .Relative importance of the credit factors • Although all the factors mentioned earlier are important in credit analysis . most bankers agree that the collateral available for a loan is generally the least important • Security is taken in most instances to strengthen a weakness found in one or more of the credit factors . however . the probability is high that at some time he or she will not comply with the terms of a loan agreement .
ability to create assets and income . and the probable economic environment for his or her business • Banks should know about the nature and operations of the business : what types of products are handled or produced . what type of services are rendered • Bank also want information on concerns financial condition .Scope of credit investigation • The scope of credit investigation will vary depending on the such determinant as the size and maturity of the loan . the operating record of the business . The trends of sales and profits may be of considerable importance in evaluating the firms future . and previous relation s with the borrower.the security offered . • The objective is to accumulate information that can be used to evaluate the applicant character .
the lending officer can also get some idea as to an applicant’s honesty and ability and may form an opinion as to whether security • In the interview . the lending officer will also advise the applicant as to what additional financial information will be needed for evaluating the proposed loan Sources of credit information Interview of loan applicant .• If the interview with the applicant . the lending officer learns the reason for the loan and whether the loan request meets various requirements established in the loan policies of the bank . • From the interview .
balances carried in checking and saving accounts . whether the applicant has a habit of overdrawing his or her account .Bank’s own records • A bank may maintain a central file of all of its depositors and borrowers from which credit information can be obtained • Even if the applicant has never been a customer of the bank . the central file may contain some information if the applicant has been solicited by the new business department It will show the payment record on previous loans .
An experienced loan officer will learn a significant amount about how productive and well managed a business is from a tour of facilities • The loan officer should note how well the business is organized and whether or not employees seem to be performing effectively • If a firm is a retailer . a visit during a normally busy period may indicate the strength of the firm’s business as well as the proficiency of the sale staff • In the case of visiting a manufacturing firm .Inspection of applicants places of business • Businesses applying for loans should be willing to allow a loan officer to visit and tour their places of business . particular note should be made of the equipment and the production layout .
• A bank cannot afford to spend a lot of money in the investigation of some loan applicants. particularly the smaller ones • Spending a lot of time on investigation may be justified in cases of new and large credit customers .Gathering credit information • The credit department of a bank gathers from different sources the requisite information on which customer evaluation must necessarily be based • Two important factors should be kept in mind while searching for credit information – cost and time .
types of product made the services rendered . the lending officer discovers the purpose of the loan sought and the applicant’s plan for repayment • If the applicant does not sastify the credit norm . the lending officer ay stop making a further probe into his creditworthiness. .Interview • An interview with the applicant enables the bank to secure the information about the history of the borrower’s business – its record of growth . the competitive position of the firm and its market – and check it against other sources • In an interview.
An analysis of these financial statements would provide an insight into the borrower’s financial position . • Such statements are most readily available from the applicant himself . • The balance sheet enable the banker to judge the creditworthiness of the borrower.Financial statements • the financial statements . profitability and loan repaying capacity. are invaluable sources of credit information . . fund management capacity . liquidity . including the balance sheet and the profit and loss account of the prospective borrower .
to. wherever they exist • These agencies collect information on the financial . managerial and other aspects of a large number of business concerns and keep it up.date • This will provide individual as well as corporate investor a useful tool in making investment decision .Reports of credit rating agencies • Commercial bank can gather information on the creditworthiness of the applicant by procuring financial reports from credit – rating agencies .
Credit analysis .
Credit decision • After determining the creditworthiness of the applicant . the lending officer has to decide whether or not credit facilities should be provided to him . • The applicant who does not satisfy the standard of acceptability may be told of the bank’s helplessness in view of its loan policy • The bank may advise such firm to approach term – financing institutions whose terms and conditions might be fulfilled by the firm . • The creditworthiness of the applicant should be matched against the credit standard set out in loan policy • The difficultly in taking a credit decision arises where the applicant is marginally creditworthy against the cost of the debt loss.
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