AAA of Corporate Credit Process

Lot has been written about corporate credit.

Why giving loans to business entities - big or small carries a high degree risk for banks when compared to Retail Loans? All banks have a detailed due diligence and appraisal process for extending loans to corporates whereas the retail loans may not need such high degree of appraisal process. And, these days, banks have leveraged technology and are offering the retail loan products online with minimum manual intervention and zero manual intervention in case of personal loans. Is this because the average ticket size of retail loans is small?

The main reason for making the retail loans processing easy may due to the fact the income being the main parameter to arrive at the quantum of loan and can be easily established for its stability & consistency. The retail loan quantum is arrived at based on the current income established through verifiable documents like salary slips, IT returns and bank statements. To some extent, the intention (credit discipline) of the applicant can be established through the Individual's Credit Information Reports.

In case of loans to business entities, there are many factors which influences the entity's turnover, cash flows and profitability - both internal and external and hence it is difficult for any lender to concretely establish the income and arrive at the loan amount. Loan amount is a derivative of many parameters in a business loan. The major difference between retail lending and business loans is the income - while the current verifiable income is considered for arriving at the loan quantum in respect of retail loans, in loans to businesses the projected turnover & income is considered which cannot be verified, but vetted & accepted by the bank. Can we call that the loan is derived in case of business loans? Another important factor is more than the income generated out of business operations, the loans extended should be need based. So, one is the repayment capacity of the business and the other is funds required for running the business are considered while arriving at the quantum.

Now let me write about the process involved in business loan proposal. The three broad steps involved in business loan proposal are:

1. Assessment
2. Appraisal
3. Approval

What is Assessment?

In Assessment stage, the credit analyst is expected to assess the request under various parameters.

• Product(s) which the unit is engaged in
• Marketing of the Product & the Business model
• What is the present status of unit's manufacturing infrastructure & technical capability
• People (Management) - Capability, Experience & the capacity to raise resources
• Finance - Last, but not the least is the financial performance & profitability - past, present & future.

Once the assessment is done on various qualitative & quantitative parameters using the analytical tools - trend analysis, ratio analysis, breakeven analysis and fund flow & cash flow analysis etc., the next step to appraise the same to the sanctioning committee through a structured proposal format & credit appraisal memo.

At the Appraisal stage, credit analyst has to highlight the strengths, weaknesses and risks involved in the proposal with numbers and suggest risk mitigation strategies through pricing, security or covenants. 'Communication' or 'The Art of writing a business proposal' is the skill which is expected of from a credit analyst. A person who has diagnosed both the business, business model & the numbers and who possess good writing skills can communicate better. When I googled for the meaning of the word 'APPRAISE', I found that it is something to do with 'to assess the worth, value or quality of something' or 'to estimate the nature, quality etc'. A Credit Analyst's knowledge & skills at the assessment stage will help in putting up a good proposal.

Finally, the approver will go through the entire proposal with the analyst's recommendations and may put the stamp of approval.

Have tried to put out something with my limited knowledge and experience. All comments to fine-tune this write up is welcome.

Nagaraj