Work on these 5Cs of credit to secure a loan

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When you apply for a loan, lenders assess your credit risk based on a number of factors including your credit and payment history, income, and overall financial situation. Fotosearch 

By ISAIAH OPIYO

In Summary

• Know what lenders look for before you put in your application.

Have you ever applied for a business loan from a bank only to receive a rejection letter after a long spell of silence? You do not have to coil back and mourn but take the opportunity to reassess your application on the bank’s scale of lending before you can make another attempt.

Banks usually evaluate loan applications based on the 5Cs of credit; which are character, capital, condition, capacity and collateral.

Of all these criteria, character cannot be measured with a formula because it is a reflection of your personal qualities, reputation and habits. It is simply determined by your credit history stored with the credit reference bureau which is gathered from how you have handled repayments of past debt obligations.

Each time you walk into a bank in search of a credit facility perhaps to start a business venture, before determining the amount of credit to grant you, the bank will immediately post an enquiry with the credit reference bureau to find out any potential credit risk of lending to you.

Based on the report generated from the credit reference bureau and the bank’s credit policy, the lender may decide whether to reject your loan application outright or process the application by underwriting it under other 5 Cs of credit.

The bank will then underwrite your application based on the criteria of capital which is the measure of your financial strength. This can only be captured from assessment and analysis of your financial statements by the credit manager.

The capital you have invested in the business will serve as an indication to the bank of how much risk you would face should the business collapse.

The credit manager will expect you to have raised capital from your personal sources to establish the business before applying for a loan from them.

This is where most applications from borrowers seeking loans for start ups usually fail since they are yet to venture into operation and so do not have any record of financial performance.

Likewise those already in active operations but do not keep records will have nothing to show to for their financial performance. Remember that the financial statements will guide the credit manager in assessing your tangible networth and credit worthiness through analysis of your assets against your liabilities.

Having demonstrated your financial strength through the financial records, the credit manager will then weigh your application and decide whether or not you have the capacity and means to meet your financial obligations throughout the repayment period. You also need to demonstrate how you plan to make prompt repayments.

The credit manager will rely on the financial statements supplied by you to assess your ability to generate sufficient funds to meet the current business obligations and any further financial burdens that could arise as a result of repayment. The ability here is demonstrated by assessment of your cash inflows against outflow.

If your cash flow cannot sufficiently support repayment, the bank will consider reducing the size of loan to a manageable amount. That is when your ability is moderate but cannot support the financial obligation of repaying the loan.

But if the branch manager feels that the cash inflow from your business can hardly meet your current business obligations, your application will be rejected outright.

Since the capacity of the business is influenced by the nature of management, the bank will send a credit officer to your premises to see how you run your venture and how it is faring under the prevailing conditions in the industry or sector.

Although the prevailing economic or market dynamics such as competition and inflation are beyond your control or influence, the bank will take note of the same considering the intended use of the requested loan to assess the impact of the condition on your repayment ability.

Where the bank feels that the prevailing market condition could derail you, the credit manager will exercise some caution as this would serve as a danger signal of potential and imminent risk of default.

Lastly, upon passing through all these assessments, the credit manager who is almost satisfied with your applications, will seek a cushion in form of a collateral to stay safe if you default.

This is where your credit report will be instrumental. Remember that this is your reputation collateral and it could help you to negotiate for a cheaper credit with the bank.

A good credit history is equivalent to a good character and can save you from the stress of looking for collateral to secure your loan facility.

Since each bank has its own risk tolerance limits and interest rates, you can shop around for a cheaper loan using your credit history starting with the bank with whom you have had a long positive relationship.

Mr Opiyo is training manager & Coach.