NOVA BANK Credit Analysis and Loan Documentation PDF

CREDIT ANALYSIS AND LOAN DOCUMENTATION WELCOME!  TRAINING OUTLINE MODULE DETAILS DURATION 1 Personal Effectiveness: The role of individual in driving organizational Day 1 AM success...

CREDIT ANALYSIS AND LOAN DOCUMENTATION WELCOME!  TRAINING OUTLINE MODULE DETAILS DURATION 1 Personal Effectiveness: The role of individual in driving organizational Day 1 AM success TEA BREAK 2 The Credit Process: Definitions, Credit process Origination – Day 1 AM Analysis (to touch on Steps 4 & 5) Credit Analysis Framework. Section 1: The 5 C’s of Credit and its application, Importance of Credit Analysis in Lending Decisions. 3 Section II: Balance Sheet, Income, Cashflow Statements and Ratio Day 1AM//PM Analysis as a Tool of Credit Analysis. Importance of these in Lending Decisions LUNCH BREAK 4 Obligor Risk Rating and Rational: Section I: Definition, Types of Day 1 PM Obligor, Importance/Need of obligor rating in credit decisions. Section II: Understanding importance of Credit Bureau in credit analysis/decision making  TRAINING OUTLINE MODULE DETAILS DURATION 5 Types of Loan: Definitions, Loan Types: Overdraft (OD), Term Loan, etc. and usage Day 2 AM TEA BREAK Loan Terms and Covenants: Terms - Offer Letters, PARTS, Limits, Day 2 AM 6 Drawdown, etc. Covenants – Compliance with laws & regulations, Financial Covenants, etc. 7 Loan Documentation: Loan Documentations: Agreement, Promissory Notes, etc., Collateral Analysis: Assessment,Value and other details. Day 2 AM/PM LUNCH BREAK 8 GROUP CASE STUDY AND PRESENTATION. POST ASSESSMENT Day 2 PM TEST ADMINSTRATION  ATTENDANCE & EXPECTATIONS Thank you for attending this training programme At Rutad Resources, we have prepared to meet and exceed your expectations on this training programme We hope you have been adequately briefed about the training By now, you must have gone through the pre training assessment Please note that attendance shall be taken, and it is in your best interest to stay through the course of the training Post training assessment will happen at the end of the training program. Please ensure full engagement and participation.  GROUND RULES MUTUAL RESPECT: We will treat every participant and facilitator with utmost respect ATTENTION: This training shall enjoy our undivided attention, all distractions like phone calls, chats and social media shall be avoided by all participants We hope we will create a shared learning experience which will impart your capacity to deliver optimal performance in your organisational role.  MODULE 1 PERSONAL EFFECTIVENESS  GOAL CONGRUENCE AND SUCCESS SCENARIOS Company Company Goal and Values Company Personal Success Values Values Personal Personal Goals and Values  BANKING AND PERSONAL EFFECTIVENESS Human Nature Margin of Error Banking and Credit Relationships Quality of Decisions BANKING AND PERSONAL EFFECTIVENESS RATE YOURSELF  24 HOURS PER PERSON Why Do Some People Achieve More Than Others?  PERSONAL PRODUCTIVITY AND CREDIT MANAGEMENT Personal productivity refers to how consistently and efficiently an individual completes tasks or accomplishes goals. UNPACKING YOUR TASKS  WORK BREAKDOWN Which of these tasks are critical, important, urgent, routine, or ritualistic? How do you handle interruptions and distractions? What are the priorities in your work? What are the things you must deliver on daily, weekly and monthly? Which reports do you submit? Which is quantitative? Which is narrative? Which tasks must be done by you? Which should be delegated to other people?  WHAT DO YOU DO? Productivity Planning: What, Who, When, Why and Where? Resource Planning: What resources must be in place to ensure maximum productivity? Resource Mobilisation: Have you mobilized and motivated the members of your team? Have you sent out mails and clarified expectations? Have you identified and aligned roles for each member? Is everyone in the team clear about their deliverables? Task Breakdown: Have you broken down the tasks for clear understanding?  WHAT DO YOU DO…….2 Scheduling and Diarising: Have you utilised technology to schedule? What tools are available to you and how well do you use them? Investing time in Studying Human Psychology Investing in Financial Analysis Investing in Rapport-building Skills Investing in Top notch Communication Skills Developing Your Gut Instincts Becoming a Skilled Negotiator  MODULE 2 THE CREDIT PROCESS  ‘’Banking is a very treacherous business because you don’t realize it is risky until it is too late. It is the calm waters that deliver huge storm’’ Nassim Nicholas Taleb ‘’THE MORE YOU DEPART FROM BASIC CREDIT PRINCIPLES, THE GREATER YOUR LOAN PROBLEMS’’…ROBERT BENBOW  NOVA BANK CREDIT POLICY AND OPERATIONAL MANUAL: ONE OF THE IMMEDIATE CONSUMABLES  Letter of application of the customer A formal document from the borrower requesting loan from a lender ORIGINATION Importance Provide initial information: amount, purpose, repayment plans, etc. Demonstrates borrower’s readiness and seriousness  Initial and follow up interview where you will Listen to the customer’s need and advise based on the INTERVIEW bank’s lending products Discuss the banks expectation in terms of pricing and other terms  Financial Analysis: oCapacity oCapital oConditions Non-Financial ANALYSIS oCharacter oCollateral These are what is known as the CREDIT ANALYSIS FRAMEWORK  MODULE 3 CREDIT ANALYSIS FRAMEWORK  From the banking perspective, Credit is the ABILITY of a WHAT IS CREDIT? BORROWER to borrow money/fund from a LENDER under an AGREEMENT to pay back both the principal and interest accrued as at when due.  The potential that a Bank Borrower will fail to meet its WHAT IS CREDIT RISK? loan repayment obligations in accordance with agreed terms. Evaluation of CREDIT WORTHINESS of a prospective BORROWER by a LENDER using Credit Analysis Framework, Financial Ratios and fundamental diligence. The role of a Credit Analyst/RM, in commercial banking is to assess the ABILITY of companies, (Mediums/Small/Large) to make TIMELY payments of Interest and Principal as at when due.  SECTION 1 THE FIVE C’S OF CREDIT AND ITS APPLICATION FINANCIAL ANALYSIS  A borrower’s FINANCIAL ABILITY of repay a loan: Healthy debt to equity ratio i.e., lower debt compared to CAPACITY equity Stable, consistent and growing revenue Cash generating ability  The CASH or EQUITY a borrower has in the business: Available owner’s cash or CAPITAL value of asset The stronger the capital of a borrower, the less risky the credit  The PURPOSE, T&C of a loan and ECONOMIC CLIMATE of the industry: Industry/sector the borrower operates in: is it declining, static or growing? CONDITION Long-term experience in a healthy industry suggest a lower risk to the lender Some loan purposes are seen as safer than others - get familiar with Credit Policy and RACs NON-FINANCIAL ANALYSIS  A borrower REPUTATION of repaying debt: Positive track record/credit histories CHARACTER oCredit Bureaus (status previously) Positive diligent background checks (BVN helps a lot now)  An ASSET pledged as SECURITY for a REPAYMENT of credit facility: It is a secondary source of repayment should the primary source becomes challenged It indicates commitment to the COLLATERAL business Credit with collateral is secured and less risky to the lender while loans without collaterals are very risky  SECTION II UNDERSTANDING BALANCE SHEET, INCOME STATEMENT, CASHFLOW AND RATIO ANALYSIS  A financial document which communicates exactly how much a company or organization is worth in terms of what it OWNS or ASSETS and what it OWES or LIABITIES as well as owner’s EQUITY as BALANCE SHEET of a particular date. An understanding of balance sheet enables a relationship manager/analyst evaluate the liquidity, solvency; and overall financial wellbeing of a proposed borrower.  ABC COMPANY BALANCE SHEET Balance Sheet Date: ASSETS ABC COMPANY Current Assets: N’M Cash Balance Sheet Inventory Total Current Assets N’M Date: Long-Term Assets Land BALANCE SHEET Buildings ASSETS General Equipment SAMPLE Total Fixed Assets N’M Current Assets: TOTAL ASSETS N’M LIABILITIES Cash ₩0 Accounts Receivable 0 Inventory 0 Prepaid Rent 0 Current Liabilities: Current Asset Total Current Assets 0 ₩0 Long-Term Assets Accounts Payable Taxes Payable Land ₩0 Buildings & Improvements 0 Furniture & Fixtures General Equipment 0 0 Total Current Liabilities N’M Long-Term Asset 1 0 Long Term Liabilities: Total Fixed Assets ₩0 TOTAL ASSETS ₩0 LIABILITIES Current Liabilities: Loan Accounts Payable ₩0 Taxes Payable 0 Salaries/Wages Payable Interest Payable 0 Total Long Term Liabilities 0 Current Liability 0 Total Current Liabilities ₩0 TOTAL LIABILITIES Long Term Liabilities: Loan ₩0 N’M Total Long Term Liabilities ₩0 OWNER'S EQUITY TOTAL LIABILITIES ₩0 OWNER'S EQUITY Paid in Capital Retained Earnings TOTAL OWNER'S EQUITY Paid in Capital 0 ₩0 TOTAL LIABILITIES & OWNER'S EQUITY ₩0 Retained Earnings TOTAL OWNER'S EQUITY N’M TOTAL LIABILITIES & OWNER'S EQUITY N’M  IMPORTANCE OF B ALANCE SHEET IN CREDIT ANALYSIS Capital structure of a Using DEBT to EQUITY ratio, Assets can impact credit borrower can impact its relationship managers/analyst worthiness. The balance credit risk. Balance sheet can evaluate or assess the sheet will show the reveals values/levels of borrower’s ability to meet its composition and quality structure e,g, debt, equity, long-term obligations of borrower’s assets etc. Assesses Liquidity Ratio Analysis Identifies Asset Capital Solvency Structure Evaluation Quality Analysis The current assets profile in a Ratios test the balance sheet will help analyst performance, strength understand the borrower's ability to and health of a meet its short-term needs. Balance business. Balance Sheet sheet will also explain the need for provide data to additional funds calculate these ratios  A financial document which communicates a company or organization’s REVENUE, EXPENSE AND PROFITABILITY over a period INCOME STATEMENT It is a statement of financial performance of a borrower and its capacity to generate earnings  INCOME STATEMENT  It is the amount of CASH (MONEY/CURRENCY), not profit because profit is not cash, that is GENERATED or CONSUMED in a given time period. This is a life blood of any entity or organization. CASHFLOW Cashflow explains RECEIPTS and PAYMENTS of an entity and it is the tool that INDICATES a borrower’s capacity to meet both short- and long-term obligations. A +VE CF indicates solid financial ability while a –VE CF poor financial ability  IMPORTANCE OF C ASHFLOW IN CREDIT ANALYSIS Cashflow indicate how Cashflow gives an analyst an opportunity to assess a efficiently an organization borrower’s default probability manages it capital through its or ability to repay its loan cash conversion cycles obligations Financial Resistance Cash Conversion Cycle Risk Assessment Cashflow helps analyst determine if a borrower will have strong resistance against financial storms or bad headwinds  Ratios show the comparisons between the financial information or data in the financial statements of an entity e.g., balance sheet, profit and loss RATIO ANALYSIS Ratios are used to assess or evaluate the current and future financial health of the borrower such as Liquidity, Solvency, Profitability, etc.  Ratios have predictive power, but it would depend on: a. Financial Statement Integrity: This is derived largely from the integrity of the management of RATIO ANALYSIS the borrowing company and to some extent, its auditing partners b. Financial Statement Timing, particularly, the balance sheet of the borrower. If company operation is seasonal for instance, financials extracted during the high season would inflate its stock, cash or debt figures  SOME COMMONLY USED RATIOS Ability of a borrower to pay its It’s measure by: long-term liabilities i.e. company has a. Gross Profit Margin = more Equity than Debt or if it has GP/Net Sales Rev over borrowed. b. Net Profit Margin = SR = Total Debt/Equity NP/Net Sales Rev. Liquidity Ratio Solvency Ratio Profitability Ratio Ability to pay short-term liabilities. a. Current Ratio(CR) = Current Asset /Current Liabilities (CA are assets that can be converted to cash easily or cash equivalent. CL = Liabilities due for payment within a year) b. Quick Ratio (QR) = Current Asset – Inventory/CL (QR measures the ease turning CA to cash without inventory)  IMPORTANCE OF CREDIT ANALYSIS IN LENDING DECISIONS Ensures decisions are based on adequate information (financial/non-financial) Optimize risks, minimize credit loses and maximize Prevents wrong credit judgement that profitability could lead to non-performing loans Portfolio Management Informed Decisions Minimize Risk and Maximize Profitability Healthy and performing risk asset portfolio since a credible and well guided decisions are taken  MODULE 4 OBLIGOR RISK RATING AND RATIONAL  SECTION I DEFINITION OF OBLIGOR, IMPORTANCE/NEED OF OBLIGOR RATING IN CREDIT DECISIONS In financial term, and under a credit or loan agreement, an OBLIGOR is legal term to mean A BORROWER or DEBTOR Obligor can be an INDIVIDUAL, or a legal entity called COMPANY  For regulatory and credit risk management purposes, obligor has limit called SINGLE OBLIGOR LIMIT (SOL) SOL is maximum amount a lender can lend to a borrower in relation to the lender’s shareholder’s fund Per CBN regulation, SOL is currently at 20%  Why SOL, you may want to ask? oTo check against concentration risk i.e. risk of having large part of your loans in a sector or industry oTo build healthy portfolio  SECTION II RISK RATINGS Risk is the likelihood or a probability or possibility of a danger or loss occurring. Credit risk rating is the evaluation of the degree of loss or default by a proposed borrower or ability to fulfil repayment obligation as at when due. oAudited/Management Report oCashflow oIncome Statement  2 types: oInternal Risk Rating – CBN, in its Prudential Guidelines of 2020 mandated that ‘’all banks shall put in place an internal risk rating model and conduct internal credit ratings of all counter parties or obligors and sectors’’ oExternal Risk Rating Ratings Attributes/Recommendations AA - Undoubted Virtually no risk Very Outstanding High Management/GS Robust liquidity/Cashflow Strongly Capitalized Outstanding Sector/Industry A - High Risk of any Strong credit loss security/capitalization is very position minimal Excellent financial history/trends Strong Management Stable/strong industry Ratings Attributes/Recommendations B- Risk of credit Demonstrable debt service Medium loss is capacity moderate Above average security cover Sound management Steady financial trends Moderate capital level C - Low Cautionary Deteriorating or lack of capital Potential debt service shortfall Security shortfall Covenant breaches Significant adverse development Probability of default is high D- Unsatisfactory Unsatisfactory Poor and Unacceptable Unacceptable  SECTION III IMPORTANCE OF OBLIGOR RATING IN CREDIT DECISIONS  Very informed credit decisions on credit worthiness of a borrower IMPORTANCE OF OBLIGOR RATINGS IN CREDIT Viability of loan performance DECISIONS Healthy Portfolio Safety from regulatory infractions Profitability  SECTION IV UNDERSTANDING THE IMPORTANCE OF CREDIT BUREAUS IN CREDIT ANALYSIS/DECISION MAKING  They collect data, financial information and dig deep into borrower’s credit details for credit decision making and for a fee CREDIT BUREAU This came about to check against the incidences of high loan default, abandonment, etc. and lack of financial transparency in the system They are licensed by CBN  Track records of borrowers oConsistent repayment oInconsistent repayment IMPORTANCE OF CREDIT BUREAU IN CREDIT APPRAISAL/DECISION oDefault, especially those at MAKING higher risks Loan Classification and performance as per Prudential Guideline e.g. less that 30days, 31-90, etc.  Reputation and Credit Worthiness of the borrower in terms of: oWillingness to pay IMPORTANCE OF CREDIT oUnwillingness to pay BUREAU IN CREDIT They help you to check against 3 APPRAISAL/DECISION MAKING of the 5 Cs: oCharacter oCapacity & health oCondition, whether Performing or Non-Performing Loan  Financial Transparency: Credit Bureau helps promote transparency in financial IMPORTANCE OF CREDIT information which lead to BUREAU IN CREDIT APPRAISAL/DECISION MAKING RESPONSIBLE LENDING, (unlike Status Report on borrowers in some years ago) END OF DAY 1 DAY 2 GOOD MORNING AND WELCOME!  MODULE 5 TYPES OF LOAN (STEP 4 OF THE CREDIT PROCESS) Per previous definition, loan is fund borrowed for a purpose and which principal and accrued interest must be paid back in a timely manner Can be SECURED – when collateral is provided or UNSECURED – when collateral is not provided  It is a short-term loan facility allowing the borrowers to overdraw their accounts, usually a current account It has finance charges, computed on daily overdrawn balances It can be secured or unsecured, depending on the goals and loan strategy of the bank  It is usually secured, in the Nigerian banking context. It has specified repayment date, usually, one year (though can be renewed upon satisfactory usage) It is used mainly for cashflow, OPEX, unexpected expenses, etc  It is a lump sum loan with a fixed interest rate and repayment terms A type of loan granted to a borrower to purchase assets that are long term in nature Asset type maybe Machines, Vehicles, Building, etc. for expansion purposes or to improve existing operations  Payments are usually affected by: o The volume of cashflow i.e. the more robust a borrower’s cashflow is; the better for both sides in terms of costs and period of repayment oUseful lifetime of the asset/equipment i.e. the longer the useful lifespan the longer the repayment  Every other loan types are structured differently but as either Overdraft or Term loan e.g. Mortgage Loan: A loan secured by real estate property. It is structured OTHER LOAN as Term Loan. TYPES Loan amount is based on the value of the property Invoice Finance: Loan used to finance outstanding invoices or contracts. It is used to manage cashflow  Letters of Credit (LC): A guarantee from a bank to pay its customer (seller) upon presentation of required OTHER LOAN documents. This can be structure TYPES as OD or Term Loan It is usually used in international trade transactions for imports and exports Import/Export, what are these?  MODULE 6 LOANS TERMS AND COVENANTS: OFFER LETTERS, DRAWDOWN, COMPLIANCE WITH LAWS, ETC. (STEP 4 OF THE CREDIT PROCESS)  They are as agreed with the borrower during the loan process and approved by the lender Loan Terms and Covenants or T&C vary from bank to bank  If T&C changes from either the borrower or the lender, let it be fully communicated, understood and accepted by both parties NOTE: Work with the credit appraisal and Legal team to craft a secured T&C  Terms and Conditions are communicated via the OFFER LETTER It is one of the most important documents in a credit process and it communicates agreements and other conditions as approved Offer Letter MUST be executed by the borrower to indicate ACCEPTANCE Do not defer or waive offer letter. Importance of OFFER LETTER: 1. It represents a formal letter from the bank to provide funding to the borrower 2. Offer letter contains the key terms and conditions of a loan e.g. amount, interest rate, fees/charges, collateral requirements, repayment terms and other condition precedent to drawing on the loan, expiration date, and others 3. It is a reference point for both the lender and the borrower in case of dispute or for other purposes Importance of OFFER LETTER: 1. Most importantly, offer letter ensures that the borrowers understand the terms and conditions of the loan and that both parties are in agreement of the terms and conditions  Loan Amount: the amount borrowed from the lender e.g. N50m Loan Type: whether OD/TL, LC etc. SPECIFIC LOAN Interest Rate: The cost of borrowing TERMS charged over a period and is usually subject to market conditions Tenor: the duration of the loan, in days, months or years. This affects the total interest to be paid  Fees and Charges: it is the associated cost of the loan. MUST be expressly stated and agree to avoid any dispute SPECIFIC LOAN Governing Law: The laws and TERMS regulation that govern the loan agreement. It specifies the jurisdiction in case of disputes e.g. this offer and its terms are subject to the laws of the Federal Republic of Nigeria…..  Debt Service Coverage Ratio (DSCR): a minimum cashflow a borrower must maintain to ensure adequacy in serving the SPECIFIC LOAN debt COVENANTS Interest Coverage Ratio (ICR): an amount set aside to service the interest accrued. It forms part of the DSCR  Default Covenants: failure to pay as at when due or missing interest payment like 3 times may be recognize as a default which SPECIFIC LOAN will help the lender to quickly COVENANTS take remedial action  MODULE 7 LOANS DOCUMENTATIONS SECTION I: AGREEMENTS, PROMISSORY NOTES  This is an integral/vital part of credit administration! It refers to all paperwork involved in a loan agreement. LOAN It is a comprehensive record that DOCUMENTATION outlines the terms and conditions of the loan between the lender and the borrower  These include: Agreement: Offer Letter which is the core document that details the loan terms, condition and covenants LOAN Security Document: if a loan is DOCUMENTATION secured by collateral e.g. Mortgage, the document of the property must be kept tightly as it gives the bank the right to seize the property should the borrower fails to pay  These include: Promissory Note: A written promise by the borrower to repay the loan according to the LOAN agreed terms DOCUMENTATION Guarantees: if someone else is guaranteeing the loan, it also must be properly document because if default occurs, the guarantor will be called to pay  These include: Financial Documents/Statements; These documents provide information LOAN about the borrower’s financial DOCUMENTATION health, which the lender uses to assess their credit wordiness. They must be properly file to meet regulatory requirement and for other uses  It represents a ‘mirror’ credit file which helps in the management and monitoring of a loan, post disbursement in terms of: IMPORTANCE PROPER oCompliance, as required by regulators LOAN DOCUMENTATION oProvides information for court process, recovery, foreclosure, etc. To a lender, it helps to protect their financial interest, manage risk, and ensure loan repayment  To a borrower, it helps to understand their repayment obligations, and avoid misunderstanding IMPORTANCE OF PROPER It foster transparency and LOAN DOCUMENTATION clarity which ensures both lender and borrower understand the loan terms, fostering a clear and transparent lending relationship SECTION II: COLLATERAL ASSESSMENT, VALUE, AND OTHER DETAILS  Assess the collateral in terms of (LCV): Location Condition Value Location Is it in a city or hinterland? Some banks class location into: A, B or C and this form part of the approval conditions Can I take possession without struggle? Location How easily can I dispossess and realize value to clean the facility? Condition What’s the condition of asset, property or equipment? Visit the property, asset, etc. physically during loan interview, for on-the-spot assessment. Condition Is it in great, good or bad condition? If collateral is equipment, is it a specialized equipment or regular one? Why? Is it worth the value stated? Condition Can it attract buyer? Never do ‘site visitation’ in the office Value Use your bank’s approved valuer!! WHY? Value MUST be at the acceptable level or more but NEVER less. Exception, if any, MUST be for Large Corporates, Blue Chips, etc. Value Consideration MUST be FSV and not OMV. WHY? END OF TRAINING! ASSESSMENTS/EVALUATIONS