MCF 304: Bank Management

1
MCF 304 Bank Management

• Lecture 4.2
• Credit Analysis

2
Credit Analysis

• Credit analysis is the most important activity in
  the lending process of any commercial bank. This
  activity involves a network of task which are
  based on theoretical model to ascertain the
  credit standing of loan applicants
• At the end of credit analysis process, a credit
  decision proposal will be presented to the banks
  management for final decision making

3
Credit Analysis

• The credibility of a credit decision is very much
  dependent on the credibility of the credit
  analysis.
• Credit analysis is greatly influenced by ratio
  analysis because of the availability of financial
  information

4
Credit Analysis

• Determine the credit standing of potential
  borrower
• However the issue of asymmetric information often
  arise because borrowers certainly have more
  information than banks on their future
• Credit analysis is practiced to determined the
  repayment capacity of prospective borrowers
  their attitude towards loan repayment

5
Credit Analysis

• Banks desire borrowers not only with repayment
  capacity but also posses the sense of
  responsibility towards loan repayment
• The 5C model is used in credit analysis to
  determine credit risk related to non-repayment of
  loans

6
5 Cs

• Character
• Evaluation on the applicant willingness to make
  payment
• Historical credit records character reference
  from third party
• Image, good standing, reputation, business
  prospects, etc.

7
5 Ca

• Capacity
• Evaluate the applicants both from the legal
  finance point of view
• Is the borrower have legal capacity to enter into
  a contract?
• Main objective is to determine the borrowers
  capacity to repay the loan

8
5 Cs

• Collateral
• Any asset pledge by borrower to secure a loan
• Need to know the age, condition specialization
  level of the pledged assets
• Banks however is more interested in loan
  repayment rather than the collateral

9
5 Cs

• Conditions
• Evaluate the economic conditions that may effect
  the borrowers capacity to repay the loan
• Forecast the exposure of borrowers business to
  economic and interest rate changes

• Capital
• Applicants net worth because its symbolize
  success commitment
• Higher net worth indicates higher loan repayment
  capacity
• Net worth encompasses accumulated earnings

10
Scope of credit Analysis

• Depends on the size maturity period of the
  loan, the track records of the company, the
  collateral involved and the past relationship
  between the applicant the bank
• Does not mean that credit analysis can be forgone
  even if the collateral value exceeds the loan
  amount

11
Source of Credit Information Source of Credit
Information

1. Loan applicant interviews to collect
   information on the character of applicants
2. Bank records factual highly reliable credit
   information
3. Business premises to verify the existence of
   business understand the structure and
   operations of the company

12
Credit Analysis

1. Financial statements to performed trend
   analysis on credible (audited) financial
   statements
2. Credit bureau CCRIS / CTOS / RAM
3. Inter bank references cross checks from other
   banks

13
Evaluation of Financial Statements

• Assets Evaluation
• Review the accounts receivables / debtors for
  possible bad / doubtful debts disaster
• Ageing analysis, trade debtors, factoring
• Determine the age, liquidity stability of
  inventories and the efficiency effectiveness of
  the company asset management

14
Evaluation of Financial Statements

• Liability Net Worth Evaluation
• Determine the status of creditors on clients
  balance sheet to protect the interest of the bank
  in the event of loan default
• Creditors can be categorized as secured,
  preferential general creditors
• The amount maturity of short / long term debts
  must be taken into consideration in determining
  the financial risk of applicants

15
Evaluation of Financial Statements

• Income Statement Evaluation
• Information on the profitability stability
  level of the company
• Will reveal the effectiveness of the company
  credit, operations debt utilization policy
• The sensitivity of each expenditure level to
  change in sale

16
Evaluation of Financial Statements

• Statement of Changes in Financial Position
• Reflect the change in liquidity of the company
• Determine the source uses of funds to determine
  the balance between financing investment policy

17
Ratio Analysis

• Trend analysis is used to find out if the
  financial performance position have improved /
  deteriorated / remain unchange over a period of
  time
• Four groups of ratio analysis
• Liquidity ratio
• Asset management ratio
• Financial leverage ratio
• Profitability ratio

18
Liquidity ratio

• Current Ratios.
• Measure the ability of the company to fulfills
  its long term loans using its current assets.
• current assets
• current liabilities

19
Liquidity ratio

• Quick Ratios
• Measures the ability of the company to pay its
  short terms loans quickly.
• Current assets (inventory prepayments)
• current liabilities

20
Assets management ratios

• Average collection period
• Measure the average days taken by the company to
  collect accounts receivables
• Account Receivables x 365 days
• Annual Credit Sales

21
Assets management ratios

• Inventory turnover
• Measures the efficiency of inventory management
• Sales
• Average Inventory

22
Assets management ratios

• Fixed assets turnover
• Measures the efficiency of the company in using
  its fixed assets to generate sales.
• sales
• fixed assets

23
Assets management ratios

• Total assets turnover
• Measures the efficiency of the company in using
  its assets to generate sales
• sales
• total assets

24
Financial Leverage ratios

• Debt ratio
• Measures the percentage of total assets that are
  financed by debts
• total debts
• total assets

25
Financial Leverage ratios

• Fixed Charged Coverage Ratio
• - Measure a company capacity to pay fixed charges
  such as interest on loans
• Net Income
• Fixed Charges

26
Profitability ratio

• Return on assets
• Measures the effectiveness of the company in
  using its assets in generating profit
• after tax earnings
• total assets

27
Profitability ratio

• Return on equity
• Measures the efficiency of the company in
  generating profits for its ordinary shareholders
• after tax earnings
• shareholder's equity

28
Profitability ratio

• Net profit margin
• Measure the ability of a company to generate net
  profit from each dollar of sale after deducting
  all expenditure
• after tax earnings
• sales

29
Thank You!

• Izdihar Baharin _at_ Md Daud
• Post Graduate Centre
• HP 006019-5170817
• Email izdi_at_oum.edu.my