Identifying Problem Loans, April 2007

The most recent Lenders’ Corner Forum, held in April 2007, focused on identifying problem loans. The group discussed experiences on how their institutions analyze a customer’s financial position, evaluate delinquent loans, and respond to delinquency. Participants also shared lessons from handling loans that turned delinquent. One of the tools shared as a result of the call was a monitoring tool that could be easily customized to individual institutions.

 

Quick Lessons

• Monitoring methods to develop early warning systems for problem loans are a very useful tool. Many participants agreed that collecting financial statements and cash flow, reviewing account history, evaluating credit history, looking at weekly sales, making on-site visits, and building strong customer relationships could all be ways to determine (and monitor) the financial position of a borrower.
• Once a problem loan has been identified, it is important to work closely with the client to improve the situation or possibly take legal action.
• Overlooking non-standard ways may create an opportunity loss to better understand the underlying issues of a problem loan or ways to detect a problem loan.

 

Using Loan Ratings Systems, December 2006

This call focused on using loan rating systems to qualify the level of risk on loans. The group shared insights on rating systems used by their individual institutions, on rating restrictions by central banks, how to account for payment history, cash flow performance, and the importance of building quality customer relationships.

 

Quick Lessons 

• Key components of a loan rating system include cash flow (debt service coverage), payment history, account performance over time, collateral, quality of management, sales and expense figures, and long term client banking relationships. Visiting a client’s business to see first-hand how a business operates, as well as viewing financial records on site, is an important step of the loan evaluation process.
• Customer relationships can be utilized in some creative ways: to create a personal touch, evaluate risks, and also monitor a borrower’s behavior, in conjunction with other key components of the loan system.
• A comprehensive loan rating and grading system would include not only a unique set of factors for a client, but also external factors such as central bank regulations, industry trends, level of fraud protection in the industry, and informal as well as formal business conduct of the sector.

 

Understanding Credit Culture, September 2006

This phone forum focused on approaches to creating a careful but fair credit culture. The group shared insights on key benchmarking ratios, common pitfalls around lender’s judgments on customers, specialist areas for lenders, and debt collateral.

 

Quick Lessons

 

• Collateral is a useful and important part of debt repayment. However, collateral by itself has its challenges, especially in countries where regulations do not support possessing collateral if the loan is foreclosed. Therefore, reviewing cash flow is often times more useful as a predictor of repayment ability.

 

• When extending loans outside of the expertise of lenders, it is important to hire a specialist or create training opportunities in specialized sectors such as, to ensure appropriate evaluation of customers.

 

A Bird’s –eye view of Portfolio Monitoring, June 2006

This call discussed portfolio monitoring and its role in maintaining a healthy portfolio and curtailing potential losses. The group shared insights on monitoring frameworks and lessons learned from monitoring and reporting.

 

Quick Lessons

• It is important to create a proper format for monitoring, and stick to it. Monitoring without documentation defeats the purpose.
• Having a second check (such as a monitoring officer) could complement monitoring efforts by loan officers.
• The use of a risk rating system supports both monitoring and portfolio reporting. Loan officers need to be able to establish a means to relate loan monitoring findings to risk ratings and loan loss reserves.

 

Management: Tipping Points & Red Flags in Credit Decisions, March 2006

This forum focused on the appraisal of management, and formal and informal tips and tools. The group dwelt on the issue of “red flags” – tipping points which should be tied to a specific circumstance that experience has taught us has a high correlation with bad loans. The moderator tied tipping points for management evaluation to four major areas: supervision, cash flow management, weaknesses, and flexibility and adaptability.

 

Quick Lessons

• Continued supervision is important, especially as adequate supervision at the time of the loan does not always translate into continuing supervision once operations are scaled up following disbursement of the loan.
• Lenders provide finance on the strength and ability of management to perform its role - this makes an effective pre-loan appraisal of management all the more crucial.

 

Risk Rating Matrices & Credit Committees December 2005

For the first Lenders’ Corner phone forum, a case study format was used. The group evaluated a pre-circulated case and discussed loan analysis and borrower characteristics, ending the call with a summary of bigger takeaways.

 

Quick Lessons

• An interesting lesson was that most lenders on the call would request additional information on specific subjects rather than turn down the loan due to inadequate data.
• Even when loan officers are pushed to generate a larger volume of loans quickly, ensuring a loan application is as complete as possible before being brought to Credit Committee saves time, allows better analysis, and helps make superior decisions.
• One of the most neglected areas of credit analysis is a specific consideration of management, and particularly of management’s strengths and weaknesses. Neglecting to realize management’s weaknesses can be fatal, as a good and effective manager may be limited by the external constraints of the market.