Identifying Signs of a Troubled Company
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Questions and Answers

What risk arises when a lender refuses to make advances under a discretionary line of credit without providing a reason?

  • The borrower may decide to end the credit facility immediately.
  • The borrower may claim that the lender did not act in good faith. (correct)
  • The lender may face criminal charges for not explaining the refusal.
  • The lender loses all rights to the outstanding balance.

    • Why do lenders get into trouble with discretionary line of credit agreements?

  • Setting unreasonable repayment terms.
  • Making statements that contradict the written documents. (correct)
  • Having too many borrowers under similar agreements.
  • Not disclosing the terms clearly to borrowers.

    • How can financial institutions protect themselves from failing-or-refusing-to-lend risk?

  • Keeping records of only successful lendings.
  • Having all agreements and amendments in writing and signed by all parties. (correct)
  • Limiting credit file comments to only positive feedback.
  • Avoiding written agreements with borrowers.

    • In litigation, what is subject to discovery?

    <p>All written materials related to the loan and security.</p> Signup and view all the answers

    What action can expose a lender to possible future litigation regarding discretionary lines of credit?

    <p>&quot;Although the documents state that the line is available at the lender’s discretion, all things being equal, we would expect to honor your request for advances.&quot;</p> Signup and view all the answers

    What should lenders provide borrowers with in case of an event of default?

    <p>A written notification of the event of default.</p> Signup and view all the answers

    Why should lenders limit credit file comments to factual matters?

    <p>To prevent disputes arising from inaccurate or misleading comments.</p> Signup and view all the answers

    What happens when everyone understands discretionary line of credit agreements?

    <p>Problems with these agreements are typically few.</p> Signup and view all the answers

    Why are lenders advised to have all agreements and amendments in writing and signed?

    <p>To protect themselves from failing-or-refusing-to-lend risk.</p> Signup and view all the answers

    What is a major risk for lenders who go beyond written documents in discretionary line of credit agreements?

    <p>Exposing themselves to potential litigation.</p> Signup and view all the answers

    What should lenders do to protect themselves from failing-or-refusing-to-lend risk?

    <p>Keep records of borrower defaults and conversations</p> Signup and view all the answers

    In discretionary line of credit agreements, what does the lender reserve the right to do?

    <p>Refuse to make any advances</p> Signup and view all the answers

    What action exposes a lender to possible future litigation concerning discretionary lines of credit?

    <p>Going beyond written documents in statements to the borrower</p> Signup and view all the answers

    Why should lenders avoid making promises beyond what is written in discretionary line of credit agreements?

    <p>To avoid potential future legal issues</p> Signup and view all the answers

    What can lenders do to avoid failing-or-refusing-to-lend risk when dealing with borrowers?

    <p>Document all defaults and related conversations</p> Signup and view all the answers

    Why do lenders get into trouble with discretionary line of credit agreements?

    <p>By making statements beyond the written documents</p> Signup and view all the answers

    What is the consequence of a lender refusing to make advances under discretionary lines of credit without providing a reason?

    <p>The borrower may claim the lender did not act in good faith</p> Signup and view all the answers

    What should lenders provide borrowers with regarding an event of default?

    <p>Written notification of an event of default</p> Signup and view all the answers

    Why is it important for lenders to have all agreements and amendments in writing and signed by all parties?

    <p>To have a legally binding record of the agreement</p> Signup and view all the answers

    What is recommended regarding credit file comments for financial institutions?

    <p>Include only facts in credit file comments</p> Signup and view all the answers

    What is the purpose of early identification of a problem loan?

    <p>To successfully address the issue before it worsens</p> Signup and view all the answers

    What could trigger a company being watch-listed as a potential problem loan?

    <p>Change in company management</p> Signup and view all the answers

    When should warning signs of a potential loan problem be addressed?

    <p>Immediately upon detection</p> Signup and view all the answers

    What does the appearance of a warning sign regarding a loan indicate?

    <p>That questions should be asked and further investigation is needed</p> Signup and view all the answers

    What is one possible cause of a potential loan problem mentioned in the text?

    <p>The borrower changing management</p> Signup and view all the answers

    What is the main focus when a borrower hands over the keys to their plant and indicates an inability to continue operations?

    <p>Understanding why the due diligence before funding was ineffective</p> Signup and view all the answers

    What could indicate that an owner or manager has changed their personal investing style?

    <p>The owner or manager has become less willing to share information about the company</p> Signup and view all the answers

    What is a potential issue if a company has family members on the payroll?

    <p>The money spent on family members should be redirected to hiring management expertise</p> Signup and view all the answers

    What is a risk when a company ventures into new business areas outside of its proven expertise?

    <p>The company's attention is diverted from the ongoing operation of the entity for which financing was provided</p> Signup and view all the answers

    What could indicate that an owner or manager is diverting business funds for personal use?

    <p>The owner or manager has become more supportive of multiple family members on the company payroll</p> Signup and view all the answers

    How can a company's diversification into new business areas affect a lender?

    <p>It can lead to the company having insufficient operating funds due to diverting funds into unrelated investments</p> Signup and view all the answers

    What is a potential issue if an owner or manager becomes less willing to share information about the company?

    <p>It could indicate that the owner or manager has changed their personal investing style</p> Signup and view all the answers

    What formula is used to calculate the break-even level in units?

    <p>$970,000 / $3,000</p> Signup and view all the answers

    What is the Break-Even Sales level when considering fixed costs and profit?

    <p>$3,400,000</p> Signup and view all the answers

    What aspect of historical relationships is a special concern in the analytical process?

    <p>Customer's history with other financial institutions</p> Signup and view all the answers

    How can documentation flaws impact the analytical process?

    <p>Expose to lender liability claims</p> Signup and view all the answers

    What should lenders consider about other creditors in credit analysis?

    <p>Willingness to share risk</p> Signup and view all the answers

    What should the lender do with the signed copy of the letter provided to the borrower and guarantors?

    <p>Keep it for their records</p> Signup and view all the answers

    What does the Ability to Improve Your Collateral Position refer to?

    <p>Existence of unencumbered assets</p> Signup and view all the answers

    What strategy could be best for a customer with rapid growth but limited capital, causing over-advances on its line of credit?

    <p>Move the loan to an asset-based lender</p> Signup and view all the answers

    What is the main reason why the text suggests lenders should fully disclose all known information to the buyer when selling a problem loan?

    <p>To ensure the buyer is aware of the risks involved</p> Signup and view all the answers

    What is the main reason why the text suggests that liquidation should only be considered as an option when there is a high probability that it is the lender's only source of repayment?

    <p>To maximize the recovery for the lender</p> Signup and view all the answers

    What is the main reason why the text suggests that lenders should obtain and keep evidence that the guarantor understood the terms of the guaranteed loan?

    <p>To avoid potential future litigation</p> Signup and view all the answers

    What is the main reason why the text suggests that many guarantors look for ways to avoid having to pay on the guarantee?

    <p>They are trying to protect their own investment</p> Signup and view all the answers

    What are the key elements that must be proven for a successful negligent misrepresentation claim against a financial institution?

    <p>Failure to exercise reasonable diligence, reasonable reliance by the plaintiff, and damages caused by the reliance.</p> Signup and view all the answers

    What is a recommended practice for financial institutions to limit the possibility of litigation related to credit information exchange?

    <p>Refer all credit inquiries to a central group or individual to ensure consistency.</p> Signup and view all the answers

    What is a recommended practice for financial institutions regarding confidentiality agreements with borrowers?

    <p>Obtain agreements from borrowers to release information to parties with legitimate business reasons.</p> Signup and view all the answers

    In the context of breach of fiduciary duty claims, what must borrowers typically prove regarding the financial institution representative?

    <p>The representative had superior knowledge and used it to benefit the lender at the borrower's detriment.</p> Signup and view all the answers

    What should financial institutions do to maintain a record of credit inquiries and responses?

    <p>Document who made the inquiry, when it occurred, what was asked, and how the institution responded.</p> Signup and view all the answers

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