4 1-Credit Risk

8/12/2019 4 1-Credit Risk

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Credit Risk


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Credit Risk

Possibility of loss from the failure of loan or debt

instrument repayments.

Change in the repayment capacity of borrowers or debt

instruments that indicates possible failure by bank

borrowers.

Banks represent credit risk through rating systems.


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Rating Methods

Rating agencies.

Agencies gather financial and qualitativeinformation to access the possibility of the

instrument not repaying the obligations in the

future.

Rating agencies assign codes to indicate the

repayment status of firms / instruments that have

applied for an evaluation with them.

Internal rating system.

Banks establish their own procedures and

methods to rate their customers.


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Risk Rating

Rating grades

- (AAA, AA, A, BBB, BB, B, B, C, D) Qualitative grades

- Good loans, Substandard loans, Default loans, Bad

loans

Rating Scale

- 1, 2, 3, 4, 5, 6 (Good -------- Bad)


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Credit Life Cycle


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Bank Credit Risk Origination

Business Loans and advances

Short term

Long term commitments

Consumer Loans

Vehicle

Jewellery

Consumer durables / White goods

Micro Credit

Off-Balance Sheet Transactions


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Loans and Advances

Loans are given through bank accounts from which the

customer will not be able to withdraw.

Loan sanctions are mostly through the purpose for which

they have been sanctioned.

Example, if the loan sanction is for purchase of

machinery, the amount involved will be directly paid

to the machinery supplier than the borrower of the

bank.


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Loans and Advances

Loan payments can also be made on a time basis where

payments will be made in stages to the borrower for the

purpose for which the loan has been sanctioned.

Loans sanctioned by the bank can be utilized by the

customer on a withdrawal basis only if the customer

opens an operational account for this purpose.

Advances that are sanctioned are at the disposal of the

bank customer and can be withdrawn whenever the

customer has a need. Withdrawal is permitted based on

the terms of advance sanction.


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Working Capital Finance

Working capital finance can be through the sanction of

loans or advances.

Demand loans

Cash credit facility (advance)

Overdraft facility from banks

Current accounts (advance)

Loans against collateral security of fixed deposits,

house documents, jewellery or shares.


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Credit Worthiness

Influences the loan / bank commitment decision.

Determination of terms and prerequisites for loan

decisions.

Type of credit / service to be granted to the customers.

Quantum of loan / service to be offered to the customers.


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Credit Worthiness

Bankable projects / proposals from the customer.

Projected cash flows from the proposal.

Projected investment from the proposal.

Past data on the performance of the company.

On going performance of the project after the creditsanction by the banks.


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Rating Guidelines by Reserve Bank India

Individual banks can use their own internal rating

methods to determine credit worthiness of their

borrowers.

Banks can define default on credit exposures when a

scheduled payment obligation by a borrower is not met

within 90 days from the due date.


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Exposure Risk for Banks

Loss of value outstanding at the time of default by a

borrower.

Loss on default is computed based on

- Default percentage (D)

- Exposure value for the bank (E)

- Recovery rate (R)

Loss on default = D x E x (1-R)


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Credit Risk Evaluation Information Requirement by

Banks

Account Number of Applicant

Date of Account Opening

Branch of Applicant Account

Whether Existing Borrowing Customer


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Credit Risk Evaluation Information Requirement byBanks

DetailsofApplicants Nameoftheentity Registeredofficeaddress Nameofthecontactperson Addressoffactory/

establishment

Addressforcorrespondence Officecontactdetails Dateofincorporation Datebusinesscommenced Dateofformation

DetailsofApplicants Line of business

Natureofproduct/serviceoffered

Typeofconstitutionofthebusiness

Existingactivityofthebusinessentity

Proposedactivityofthebusinessentity

Nameofparentcompanyifany


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BanksPurpose of Loan

Expectedsourceoffunds Businessowner

Expectedaccountturnover Returnoninvestment Saleproceeds DetailsofDirector

Detailsof

the

Board

Principalshareholdersofthecompanyandtheiraddress

Purpose of Loan

Exposure of theborrowing entity withother bank groups

Credit facility availed

Credit facility applied Type of facility

Amount

Purpose

Tenor

Primary security

Collateral security

Currency of security


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Banks

Details of Assets

Land

Tools

Electrical

Machinery

Other assets

Information on each typeof Assets

Purpose of asset

Imported / Indigenous

Supplier

Total cost

Promoters contribution

Loan required


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Banks

Business Information

Details of collateral

Details of customers ofbusiness

Currencies in whichbusiness is conducted

Number of employees

Existing Credit Facil ityDetails

Types of facility

Limits (value)

Outstanding as on theprevious accounting date

Names of bankspresently working with

Security lodged

Rate of interest

Repayment terms


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BanksPast Performance (Twoyears)

Net Sales

Net profit

Capital (net worth)

Total debt

Imports

Exports

Future Estimate (Currentyear and next year)

Net Sales

Net profit

Capital (net worth)

Total debt

Imports

Exports


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Additional Details Required

Purpose of request detailing various heads under which financialassistance is sought

Organization chart, affiliate information, subsidiaries, and ownershippattern

Copies of IT returns for the last three years

All bank account statement for the last 12 months

All loan account statement for the last 12 months with amortization

schedule / sanction letter

Copy of latest sanction letter with existing banker/s

Value of stock / debtors and creditors for the last 6 months

Month wise sales / purchases for the past 12 months (break upshowing exports / imports and domestic).

Sales / purchases to/from top 5 buyers / suppliers with contactdetails

Details of bad debts during the past three years


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Additional Details Required

Latest net worth statement of the proprietor / partners /directors / guarantors certified by a CharteredAccountant

Projected financials for the business for the next 3 years.

Photocopy of the documents of property offered ascollateral security (agreement for sale and related

documents, share certificate, sanction plan, no-objectioncertificate (NOC) from concerned society)

Detailed project report (expenses, machinery to be

purchased, project cost, method of finance, financialprojections for the tenor of the term loan sought withnecessary assumptions, break even analysis)

Documents

4 1-Credit Risk