The Ten Commandments of Commercial Credit:
The C´s of the Force
One of the first things credit analysts’ learn is the five Cs of credit. The, names varied but the essence is the same: the trusted rules to follow in order to do a good credit decission: character, capacity, conditions, capital, and collateral.
Make sure your customer has Character! Resilience whenever things get tough. You might not expect that to happen but "what-if" analysis is a mustto give you some sense of assurance.
Is your customer able to pay back? Check if a company is not making money or generating a positive cash flow.
Be aware that economic and industry conditions can and will change. You do not know what will happen, but you need to be able to quickly react to changes .
Your customer must be capitalized. The networth is sort of cushion for any losses that may occur.
Do NOT ever make credit decission based only in collateral! Collateral is just an extra security in case things do not go as expected, and a sizable asset backing up each deal means that if something goes wrong, you might be covered. However, if company is suffering the chance that the asset value falls is high, and you coverage reduce dramatically.
The C´s of the dark side are complacency, carelessness, communication, contingencies, and competition.
"I don’t need to worry about that borrower, he has always paid us on time."
That loan can’t go bad. Mr. Rich and Famous is guaranteeing it"
"The last three loans were paid as agreed. Why worry about this one?"
"I know him. I know his family. They have borrowed from us for years; they wouldn’t default on me."
What experienced lenders need to emphasize to new lenders is the danger of the good times. The danger is that bad times always follow!
"Don’t worry about the loan covenants or documentation, I’ll get to it later."
Inadequate Loan Documentation . Perfection needs to be filed on some assets.
Lack of Current Financial Information
Lack of Protective Loan Covenants .
Information Not Kept in Files. Many times, side agreements, calls or conversations are not properly filed and who is able to remember 3 years later when going to court? ...
Unclear Credit Quality Objectives. Maintain Loan policy written and updated to provide standards for acceptable and unacceptable loans.
Upward Communication. There must be upward and lateral communication, Sales people might know that customer is under financial pressure and he might assume credit department knows about it...Dont assume, just communicate!
Lenders get paid for taking risks on customers and being right about 99.9 out of 100 times. The job is to weigh the risks of a loan and the odds of being paid back -- to look at the contingencies. Credit personnel are supposed to look at every bad thing that can happen and then decide how likely it is that any of those things will happen.
Insufficient Attention to Downside Risk. "What are your contingency plans if the economy slows?"
Make the Deal Work. "Your financials don’t look very good, but don’t worry, we can find a way to make this work."
Price for Risk. "Of course is risky, that´s why we are charging such a premium rate..."
Lenders started making decisions because of what the competitor down the street was doing, rather than concentrating on the merits of the loan in front of them.
Competitive Euphoria. "I am not going to lose this deal to anyone"
Commercial lending will always be around, and mistakes will always be made. That is why there are loan loss reserves and provisions. The key, of course, is to remember these painful lessons so no one has to learn them the hard way again. Just let the force guide you my Credit Wan
November 18, 2015 at 12:20PM
from Alejo Lopez Casao - Blog http://ift.tt/1HHJfTo