BNFN 404 CREDIT ANALYSIS AND LENDING

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BNFN 404CREDIT ANALYSIS AND LENDING

• WEEK 11
• ASSESSING LOAN PROPOSITIONS
• FROM MSMEs
• HATICE JENKINS

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WHY WE EVALUATE ?

• TO ESTABLISH BORROWERS ABILITY WILLINGNESS TO
  REPAY THE LOAN
• TO AVOID BAD LOANS!!

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LENDING TO SMEsBad Loans The After Effects

• Substantial effort and cost in administration and
  recovery
• Remain Alive long after scheduled settlement
  date
• Demand the Lions share of attention at the
  expense of good clients.
• A bad loan can ruin a business and bankrupt its
  owner.

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LENDING TO SMEsThe Realities

• Owner The key person in the business
• Limited information on which to base a decision

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LENDING TO SMEsOwner The Key Person

• Sole decision taker
• No formal management structure
• No clear boundary between business and family
  finances

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LENDING TO SMEsLimited Information

• Past record out of date
• Accounts do not tell the whole story
• Budgeting/Planning almost never formally carried
  out

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LENDING TO SMEsImplications for the Lender

• Heavy reliance must be placed on competence and
  character of owner
• Need for investigative/detective work in
  establishing facts
• Too much analysis and number crunching does not
  add value to the final outcome

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LENDING TO SMEsSteps in the Evaluation

• Owner
• Business
• Proposed Investment
• Ability to Repay
• Security

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LENDING TO SMEsEvaluating the Owner

• Things to Look for
• Vision
• Drive and stamina to succeed
• Understanding of business environment
• Knowledge of sales and profitability
• Technical know-how
• Character

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LENDING TO SMEsFinancial Philosophy of Owner

• 1. Financially Conservative
• Risk averse
• Uncomfortable when borrowing
• Likes to live within his means
• Does not want to pay fees/bank charges
• Normally ploughs all profits back into the
  business

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LENDING TO SMEsFinancial Philosophy of Owner

• 2. The Big Spender
• Takes many risks when borrowing
• Optimistic about repayment prospects
• Sometimes spends without considering the
  consequences
• Feels entitled to a high standard of living
• Normally takes money out of the business

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LENDING TO SMEsEvaluating the Business

• Competitive positions of business
• Financial performance and financial standing

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LENDING TO SMEsCompetitive Position of Business

• Review of Competitive Environment
• Identification of risks
• Identification of critical success factors

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LENDING TO SMEsEstablishing Financial
Performance And Financial Standing

• Sources of Information
• Accounts
• Bank Statements
• Asset Creation
• Personal Wealth
• Within the business
• Confidential Information
• Undeclared sales
• Secret Deposits

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LENDING TO SMEsThe Proposed Investment

• Does it make sense?
• Is there a need?
• What are the benefits?
• Is the Cost reasonable
• What is the financial plan?
• Own funds
• Loan
• Other

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LENDING TO SMEsAbility to Repay

• Striving for Accuracy is pointless
• Establish Gross Operating Income (PBITD)
• Establish major obligations (loan repayment, tax
  etc.)
• Check for ability to repay making allowance for a
  margin of error

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SECURITY/COLLATERAL
Alternative source of repayment when primary
source fails
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LENDING TO SMEsSecurity Increases in Importance
With

• Higher risk loan propositions
• New clients
• Start-ups
• Projects in declining sectors etc.
• Longer loan horizon
• Larger loan size
• In general, when likelihood of the primary
  source of repayment breaking down is high.

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TYPES OF SECURITY TO AVOID

• Assets which are difficult to value.
• Assets which are difficult to control
• small items
• mobile assets
• Assets which are difficult to sell
• high-tech equipment
• purpose built assets

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TYPES OF SECURITY NORMALLY TAKEN BY SBA
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GOOD LENDING PRACTICES

• Always visit client at his premises
• Do not take clients statements at face value.
  Establish facts!
• Review accounts with skepticism
• Be skeptical of feasibility studies and business
  plans
• Discuss difficult lending proposals with another
  colleague
• Do not process an application if client is not
  ready to implement the project
• Always agree all loan terms with client before
  approval
• Do not be afraid to say NO
• Your NO must be final
• Do not lend if you have good security but a lousy
  project
• Do not throw good money after bad
• Trust your gut feeling

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LENDING TO SMEs Attributes of A Good Loan Officer

• Well developed analytical skills
• Business analysis
• Financial analysis
• Thorough understanding of market/economic sectors
• Good communication/interpersonal skills
• Willingness to get his/her hands dirty
• A generalist, with education and experience
  outside banking
• Sound judgement
• Integrity of character