The principles of lending and lending basics

8/11/2019 The principles of lending and lending basics

1/23

30/09/2014 978-0-7346-1164-2

Chapter One

The principles of lending

and lending basics


2/23


3/23

Distinguish different types of borrowers and any speciaconsiderations in lending.

Explain how advances are structured.

Explain the importance of credit culture in a lending ins Understand how an advances portfolio is designed.

3


4/23

Introduction

Lending evolved in real-world practice with supporting developed later.

Lending principles are universal in their application to lo

all sizes. Lending is both an art and a science.

4


5/23

Principles of good lending

Safety of loan: Borrower should be of good character, financially sound with

and willingness to repay the loan.

Suitability of loan purpose: Loan applications may be accepted or rejected subject to ba

legality and ethical principles.

5


6/23

Profitability: The risks and returns from lending activities must be carefull

considered to improve viability of loan portfolio.

Following the Lending Principles: Regardless of loan size, lending principles of varying levels osophistication must be rigorously adhered to.

6


7/23

Five Cs

Character

Capacity

Capital

Collateral

Conditions

7

Traditional methods of creditanalysis


8/23

Modern approaches to creditrisk measurement

Econometric techniques

Optimisation models

Neural networks

Hybrid systems

8


9/23

External factors affectinglending decisions

Legislation including common law, RBA Act, Banking AUniform Consumer Credit Code, ASIC Act and the ACCconsumer laws

Macroeconomic factors Industry-specific factors

9


10/23

Lending Inst i tut ion-Speci f ic Factors :

Institution's lending policy, Loan Budget and Staff Availability

Bo rrower-Speci f ic Factors :

Meeting Five Cs requirements and compliance with legal

requirements such as common and black-letter law

10


11/23

The lending process

Ten-Step Process :

Step 1: Use of prescribed application form

Step 2: Obtain required supporting documents such as income

financial statements

Step 3: Check loan application and supporting documents forinconsistencies

Step 4: If personal loan, loan decision can be made. If business

lender to gain better knowledge of proposed borrowers busines

Step 5: Appraise technical, commercial, financial and manageri

of the business 11


12/23

Step 6: Assess financial requirements and determine most s

product

Step 7: Advise potential borrower whether loan application is

successful or not

Step 8: Ensure security and all other loan documents are sig

Step 9: Monitor borrowers financial position and repayment

Step 10: Ensure necessary steps are taken before loan in de

12


13/23

Characteristics of differenttypes of advance

Tradit io nal Types of Advance

Loans Classified According to:

Security secured v. unsecured loans

Type of Borrower personal, business or government Term of Loan short, medium or long

Sector retail, manufacturing or mining

13


14/23

Loans Classified According to:

Region rural, town or major city

Purpose personal, home, commercial, motor vehicles.

Overdrafts: Flexible form of fixed limit continuous loan with no fixed re

schedule and flexible drawdown characteristics.

14

Traditional types of advance


15/23

Modern forms of advance forbusiness

Equity Participation: where equity rather than debt f

provided

Loan Syndication: consortium of lenders provide fun

Equipment Leasing: financing v. operating

Factoring: sale of business debt

15


16/23

Personal borrower

Unable to enter loan contract if: Minors borrower under 18 years

Persons of unsound mind

Insolvents bankrupts or insolvents who are either undispending proceedings

Joint Accounts: account held in the name of two or mpersons

Husband and Wife: see joint account

16


17/23

Sole Proprietorship: Business operated by one pers

Partnerships: Business with more than one owner w

profits shared

Companies: Separate legal entity recognised under

Corporation Law

17

Business borrower


18/23

Special types of borrowers

Local authorities: e.g. local government entities such a

Councils

Clubs, Literary Societies and Schools: Generally regis

unincorporated associations or trusts Unincorporated Associations: e.g. arts, charities and r

organisations

Co-operatives: e.g. farming bodies

18


19/23

Structuring of advances

Security/Collateral: Includes land, buildings, directors guarantees, shares and c

Debt Covenants: Outlines key loan conditions including fees, security, repaym

Pricing Issues: Risk premium over a benchmark rate

19


20/23

Credit culture

Can be defined as:

The institutional priorities, traditions and philosophie

surround credit or lending decisions; and/or

The collection of principles, actions, deterrents and

that exist within a lending organisation Caouette, AltmNarayanan (1998)

20


21/23

Banc One uses the principles of:

Strong customer orientation

A preference for small exposures

An understanding of the business to whom you are lendin

Understanding of the organisationsrisk tolerance and pr

when assessing proposals

Understanding that avoidance of problem loans is not nec

good sign

21


22/23

Designing an advancesportfolio

Advances portfolio design requires decisionsincorporating:

What resources are available to invest?

Of these, what proportion should be invested in advances

What proportions should be invested in personal versus badvances?

Of those personal advances, what proportion should be iloans, credit cards and so on?

22


23/23

Three main approaches:

Historical or recent loss experience

Standards based on risk tolerance to capital

Risk-adjusted return on capital, where risk is evaluarelative to the risk either at the transaction level or b

unit level.

23

The principles of lending and lending basics

Documents

Transcript of The principles of lending and lending basics