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credit analysis

Posted by: vindyjunior Sep 6 2003, 10:53 PM
sad.gif Hi, I'm a junior bank Executive in one of the banks in Asia. I'll be sitting for a bank exam soon, and one of the major question asked is on analyzing & how to write a good credit report on commercial/bizz loans. Coming from a consumer loans background, i'm a bit blur on this. I would appreciate if you could explain in brief between using the P&L statement, Balance sheet Stat & Cash Flow stat in coming up with a good credit analysis on giving out loans to business loans & what are major points in those statements that I must use to do a good evaluation. Tq.

Posted by: loanuniverse Sep 7 2003, 12:19 PM
Before I begin let me make a small distinction between what I do {credit analysis} and a {credit report}. I noticed that you kind of used both terms to describe the same thing. While it might be common to refer to credit work as either an analysis or a report, in my experience a credit report is usually associated with the overall credit worthiness of a company. However, a credit analysis is more specific and deals with the repayment capability of a borrower as it relates to a specific credit request. For example, you could get a credit report on thousands of companies, which will provide you with financial information and probably a rating on them. If one of those companies approaches your employer to borrow X amount of money, then a credit analyst will perform an analysis of the repayment, and probably use a credit report as a source of information for it.

Something else that is important to note is that a credit analyst should not approve the loan. The analyst should be limited to give his opinion or recommendation on the credit. The analysis is only a tool {the most important tool in my opinion} for the people with approval authority to determine if the risk of the transaction is warranted. Without getting too deep into it, lets just say that joining a department that is responsible for production with a department that is responsible to control credit quality is a bad idea.

Now to answer your credit analysis question:

A - First, a good credit analysis must have {at a minimum} the following addressed:

- The borrower must be identified {background, industry, management, etc} The amount of information can vary a lot and is determined mostly by the size of the request.
- The terms, conditions and pricing must be detailed.
- Financial information should be discussed. {see section B}
- Repayment must be identified. {see section B}
- Guarantor information if one exists. {see section B}
- A conclusion or recommendation ends the analysis.

B - While the above is mostly structural, the most important factors that you should keep in mind when performing a credit analysis on a borrower are:

- The most important goal is to answer all the Whys?. Most of the questions will arise from the financial performance of the company reflected by its income statement {do not use P&L, that is more of an operational term used by managers, you are a finance professional} Examples of important whys? That need answers:
1) Why did sales/revenue increase or decrease?
2) What happened to the cost structure of the company? Improved or deteriorated?
3) What happened to profits and profitability?

- You will also need to use the balance sheet to discuss the financial position of the company such as net worth, and turnover of trade assets {receivable & inventories}.
- Just as important will be to determine the source of repayment of the loan. This would take me a lot to explain, but let me summarize it by saying that profit does not pay loans. Only cash flow pays loans.

Hope this helped.

For further reading on credit analysis, you might want to try this book Standard & Poor’s Fundamentals of Corporate Credit Analysis

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