Lending: From A Banker’s ViewpointLending: From A Banker’s Viewpoint

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Sources of Repayment

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5 C’s of Credit

CharacterCharacter

• Is the collateral sufficient as a source of repayment? If the collateral must be liquidated, is the realizable value enough to repay principal, outstanding interest and cover the bank’s administrative costs of liquidation?

• What are economic and market conditions that could impair the entity’s ability to service the debt and repay the loan? Does the entity recognize these risks and have plans to mitigate them?

• Does the borrower demonstrate a commitment to honor his or her transactions and keep promises even under adverse circumstances?

CapacityCapacity

ConditionsConditions

CapitalCapital

CollateralCollateral

• Does the entity demonstrate the capacity to apply the loan funds? Does management have a business plan? Are plant and equipment sufficient? Are marketing and product delivery well developed?

• Does the organization have sufficient assets to absorb normal business risk?

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The Loan Application

• Ensure that the loan application is complete and accurate• Core bank loan application information often includes:

o Historical business financial information (2 years)o Form 990, Return of organization exempt from income tax (2

Years)o Interim financial statements along with accounts receivable

and payable aging reports if applicable

• Alternative (micro) loan application is similar, but often allows some flexibility – ask questions!

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Underwriting Pillars

• An organization’s financial condition determines the borrower’s ability to generate enough cash to repay the debt

• Three items in particular are evaluated:

• Cash Flow

• Liquidity

• Leverage

Financial Condition

• It is necessary to determine the competence and integrity of key individuals running an organization

• A weak management team not only endangers the second source of repayment, but opens the doors for additional problems

Management Quality

• The bank will determine the realistic level of control over any collateral pledged, including its likely liquidation value or net present value

• Inability to realize or “call” collateral threatens the third source of repayment

Collateral / Security

• Analysis of the industry focuses on the particular industry of the borrower and the borrower’s position within the industry

• Weaknesses in the industry foundation can negatively impact a borrowers ability to repay

Industry Dynamics

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Important to Remember

• Cash flow

• Determine trends (revenue/expense)

• Industry comparison

• Total administrative costs

Underwriting Pillar – Deeper Dive on Financial Condition

Cash Flow

Provides a better understanding as

to how much excess income the organization will generate and the

factors that influence income

EBIDA Debt Service Coverage (EDSC)

Calculation:(Net income + interest expense + depreciation + amortization) / (Current portion long term debt (prior period) + Interest Expenses)

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LiquidityThe ability to

quickly convert the organization’s

assets into cash

Important to Remember

• Evaluate integrity of creditor support (adequate asset protection for liabilities)

• Evaluate current asset quality and aging of receivables (A/R > 90)

• Variety of funding levels from different sectors including corporate foundation, individual, or government grants

Underwriting Pillar – Deeper Dive on Financial Condition

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