MODULE NO 1: THE PHILOSOPHY AND FOUNDATION OF CREDIT

HISTORY OF CREDIT

PRE SPANISH TIME – The Philippines had been trading with the foreign countries such as China,
Japan, Sumatra, India, Arabia, Borneo, Siam, Java and other East Indian Islands, when the Spanish
Conquerors arrived. The barter system then was used in the conduct of trade with the foreigners. The
Filipinos exchanged their native products such as cotton, pearls, betel nuts, sinamay fiber, etc. with the goods
of the foreigners like porcelain, silk, ivory, etc.

Before the Spaniards arrived, the Filipino traders were famous for their honesty and excellent credit
record. Dishonesty and non-payment of debts was greatly discouraged by punishment which are considered
primitive under present culture. The reputation of Filipino Traders as good debtors contributed tremendously
to the growth and commerce in the Asian region.

SPANISH TIME – during the initial years of the Spanish rule, free trade was encouraged. A product
of Mercantilistic policy in the Philippines was the Galleon Trade. This was the Manila-Acapulco trade.It was
called Galleon Trade because it was carried on by the transpacific galleon. The privilege of doing business
in the Galleon Trade went to the governor general, religious officials, royal officials, soldiers and their
relatives and friends. The forerunners of the banking institutions in the Philippines were the Obras Pias.

The funds of the Obras Pias were donated by rich citizens for religious projects, and these were
managed by the religious orders as well as those who participated in the Galleon Trade secured their loans
from the Obras Pias. The credit system during the Spanish time favored only few, it only served the economic
interest of the ranking officials and their relatives and friends.

AMERICAN ERA- The American government gave priority to the development of agriculture, since it
was neglected and remained underdeveloped under the Spanish time. The American administration
introduced a better banking and credit system to promote economic development specially in the rural
areas. Among the credit programs of the government was the organization of the first agricultural bank
in 1908 for the benefit of the farmers.
The banking system grew but it was dominated by foreign interest. To remedy the shortcomings in
the credit system, the Philippine National Bank was established in 1916, wherein the First Agricultural
Bank funds were transferred to the PNB. It extended long term loans to agriculture and industry.

UNDER THE REPUBLIC – the scars of World War II were still conspicuous when the Philippines
became a republic on July 4, 1946. It was a period of reconstruction and rehabilitation. The national
economy and the people greatly needed money for business and economic development. The
Rehabilitation Finance Corporation was established on October 29, 1946. It provided credit facilities
for the rehabilitation of agriculture, commerce and industry. In 1958, the RFC became the Development
Bank of the Philippines. In 1949, the Central Bank of the Philippines was established and that was
a very significant improvement in the financial system of the country.

In 1952, the Agricultural Credit and Cooperative Financing Administration (which later became
and whose functions have been taken over by the Land Bank of the Philippines in 1982) and rural banks
were established for the benefit of the farmers and other low-income groups in the rural areas.

Definition (Credit). We speak of credit if one party, named creditor or lender, transfers
money or resources to another party, named debtor or borrower, where the second party does
not reimburse the first party immediately but instead promises to return something of value
later.

The word credit comes from the Latin word “credere” which means “to trust” or
“creditum” meaning founded on trust. The widespread use of credit is strong evidence to
support the belief that people have trust in one another.
 Two parties involved in credit transaction: Lender and the Borrower, Creditor and
Debtor, Surplus Spending Unit and the Deficit Spending Unit.

Other Meaning of Credit:

In banking, credit refers to “an entry in the books of a bank showing its obligation to a
customer” that is, for the deposit made by the latter.

In bookkeeping, credit is “an entry showing that the person named has a right to
demand something but necessarily money.”

In commerce, credit pertains to “an exchange transaction”.

The term credit may refer to a credit instrument, a document which serves to evidence
the existence of a business transaction anchored on trust.

Credit is the loan that your lender provides to you. It is the money you borrow up to the
limit the lender sets. That is the maximum amount you can borrow. Debt is the amount
you owe and must pay back with interest and all fees.

Credit (from Latin verb credit, meaning "one believes") is the trust which allows one
party to provide money or resources to another party wherein the second party does
not reimburse the first party immediately (thereby generating a debt), but promises
either to repay or return those resources (or other materials of.

There are many forms of credit money, such as IOUs, bonds and money markets. Virtually
any form of financial instrument that cannot or is not meant to be repaid immediately can be
construed as a form of credit money.

Money in whatever form has not only eliminated the shortcomings of barter and
facilitated exchange transactions but continues to play an important role in
economic society.
First, let’s pinpoint the core. consideration, but with a compensation promise or as
Hermann. The constitutive feature of credit is the lag between service and return service.”
This time lag gives rise to a so-called uncertainty phase whose analysis is at the heart of
credit contract theory and modelling it reasonably provides a challenge.

Second, notice that the service and the promised return service are not necessarily of equal
value! Often the compensation promise includes the principal plus an additional amount called
interest.

Third, note that even though definitions of the term ‘credit’ often restrict their focus on the
surrender of money; credit settings are not at all restricted to bank loans! The concept ‘credit’
is applicable to all situations in which some required compensation is not carried out
immediately. It designedly applies to a whole variety of situations and contract types.
Consequently, the theory of credit relationships is applicable to much more than just bank
loans – which makes it even more valuable.

ELEMENTS OF CREDIT

TRUST – this implies that the creditor or banker has faith in the ability and willingness
of the debtor to fulfill his obligations, be it an individual, corporation or government.

TIME OF PAYMENT – the borrower has an obligation to pay his debt in a definite time or
date. A certain fixed date is agreed upon for him to pay as promised.

RISK – life is full of risks, and this includes the payment of loans. The ability of the borrower
to fulfill his promise to pay may be reduced by circumstances beyond his control, such as
natural calamities and personal misfortunes.
USERS OF CREDIT

CONSUMERS – many people borrow money, especially the poor, for the purchase of essential goods
and services, like food, shelter, health and education. In times of emergency, such as accident, death and
other calamities, the poor resort to
credit funds. Their existing financial resources are not enough to defray their unexpected financial needs.

BUSINESSMEN -most businessmen, if not all, finance their investments through credit. They borrow
their money from financial institutions to purchase machines, construct buildings and other fixed factors of
production. Marketing people use credit to buy trucks, storage facilities and other capital goods. Even the
lowly market vendors depend on credit, most likely from usurers, to finance their buy and sell business.

GOVERMENT – Poor and developing nations lack sufficient funds to finance their development
programs. Their incomes from taxes and their internal credit is not enough to implement their economic
and social projects, so they borrow from the rich countries, like the United States, Japan, Germany,
and Canada. They also borrow from International Financial institutions, such as the World Bank, Asian
Development Bank, and International Monetary Fund.

SUPPLIERS OF FUNDS

BANKS – the banking system provides loans to individuals, firms and governments. The commercial
banks can easily expand money supply in the economy by lending the money of their depositors.

CREDIT COOPERATIVES – these credit associations grant loans to their members for productive and
providential purposes. The members of credit cooperatives belong to the poor and middle-income
groups.

PAWNSHOPS – many financial problems of students, poor housewives and employees are saved or
reduced by pawnshops. Borrowers offer their valuable goods such as rings, watches, cellphones and
other jewelry as collateral for their small loans.

UNLICENSED MONEY LENDERS – this type of creditor has become very popular from ancient times
to the present. They are found in all places.
Their credit scheme has been illegal, but it has remained until now a very lucrative business. Because
of their high cost of credit, they earned the reputation of loan sharks. Although usury is being cursed
by society.
The poor who desperately need money have no recourse except to be victims of the loan sharks.

OTHER INSTITUTIONS- There are other financial institutions which supply credit, such as investment
and financing companies, savings and loan associations, insurance companies, GSIS and SSS.

Good Credit vs. Bad Credit

Having good credit means that you are making regular payments on time, on each of your accounts,
until your balance is paid in full. Alternately, bad credit means you have had a hard time holding up your end
of the bargain; you may not have paid the full minimum payments or not made payments on time.

Good credit is a classification for an individual's credit history, indicating the borrower has a relatively
high credit score and is a safe credit risk. Credit rating agencies assign borrowers a score based on their
credit history, which is tracked in a credit report.

Living well without credit is certainly possible. We'll be straightforward here: Many things in life are
much easier when you have a good credit score. But lacking a credit score doesn't mean you'll be forced to
go live in the woods. You can theoretically live your life without having any credit for your name.

Is it better to have money or credit?

If you tend to overspend on credit cards or are already carrying a large balance, it's probably best to use
cash or a debit card. However, if you always pay off your credit card balance every month, then you could
benefit from using a rewards credit card that earns points, miles or cash back.

The major difference between good credit and bad credit lies in the need of the person as well as the
rate of interest at which the credit has been availed.

Good credit is available to a person when he has a good credit score while bad credit is available to
anyone, anytime and credit score is irrelevant.

Good credit is credit obtained to improve your financial wellbeing over time. Mortgages, business loans, and
student loans are all prime examples of good credit. Bad credit is usually credit obtained with no investment
value – credit obtained to pay for consumables, or items that will not appreciate their value over time.

Is it good to have credit but not use it?

Having the credit in question available to you, but not using it might help boost your overall credit utilization
ratio. In short, your credit utilization ratio is the amount of credit you use compared to the credit available to
you.

Do you really need good credit?

In addition to having higher credit approval rates, people with good credit are often offered lower interest
rates. Paying less interest on your debt can save you a lot of money over time, which is why building your
credit score is one of the smartest financial moves you can make.

Bad credit is ominous for any man as it lowers his credit score and makes him ineligible for loans in
future even for good causes. It is easy to see that in modern times, it is difficult to escape from credit.

Is credit a good or bad thing?

Credit is a tool that can be used for good but may be problematic if you don't know how to use it effectively.
Using credit reliably and earning good credit scores can help you build wealth and allow you to do business
with companies — but you can get into trouble if you don't understand how credit works

Is credit real money?

Credit money is the creation of monetary value through the establishment of future claims, obligations, or
debts. These claims or debts can be transferred to other parties in exchange for the value embodied in
these claims.

Why is business credit important?

1. You can obtain business financing quicker and easier

2. You can get better credit and repayment terms with suppliers
3. You can protect your personal credit score
 4. It helps to finance business transactions when they are short of funds.
5. It also helps the economy grow since credit leads to an increase in spending. If credit is
used to purchase productive resources, income levels in the economy increase.

What are the most important components of credit?

The most important components of credit include history of on-time payments, types of credit owned,
amounts owed and credit utilization. Another thing that goes into a person’s credit score is the length of
credit history, which means the age of the oldest account on file.

NOTHING FOLLOWS
Part 2: CREDIT PROCESS & CREDIT RISK MANAGEMENT

Overview
After knowing what credit is, it’s time to discover the risk that accompanies it. This topic will
discuss the fundamentals of credit risk management aspect. We will begin with the definition of
credit risk, concepts associated with inability to pay and the type of transactions that create credit
risk. You will also have an idea of who is exposed to credit risk and why we need to manage those
risks.

Study Guide

The following are the learners’ guide to complete this module:

• The learner should make time to read and understand the given module.
• Some parts of the module are in worksheet type for the learners to have deep exposure about the
given topic.
• Other activities are encouraging such as web searching, reading open journals and other reading
materials to generate more ideas about certain topics.
• Search some related topics that are not mentioned in the modules.
• Don’t hesitate to ask relevant questions for better understanding of the topics.
• Monitoring of student’s progress will be implemented through mobile technology (phone interview
and graded recitation over phone calls).

Learning Outcomes

At the end of this module, the students can able to:

1. UNDERSTAND THE FUNDAMENTALS OF RISK MANAGEMENT ASPECT

2. DEFINE CREDIT RISK
3. IDENTIFY TRANSACTIONS THAT CREATE CREDIT RISK
4. EXPLAIN WHY WE NEED TO MANAGE CREDIT RISK
5. NEED TO MANAGE CREDIT RISK
6. DEFINE CREDIT PROCESS
7. WHAT ARE THE STAGES OF CREDIT PROCESS

Topic Presentation

What is Risk?
• Risk is the chance that an investment (such as a stock or commodity) will lose its value.
• Risk is the chance of loss or the perils to the subject matter of an insurance contract
the degree of probability of such loss a person or thing that is a specified hazard to an insurer an
insurance hazard from a specified cause or source

Risk is the exposure to uncertainty of outcome:

• Exposure: a position; an interest in an outcome

• Outcome: the consequence or result of a particular course of action
• Uncertainty: doubt; volatility of potential outcomes; deviation from expected
outcome
To reduce risk, an organization needs to apply resources to minimize, monitor and control the impact of
negative events while maximizing positive events. A consistent, systemic and integrated approach to risk
management can help determine how best to identify, manage and mitigate significant risks.

What is Risk Management?

• Not merely about controlling and reducing risk (although a necessity in many cases).
• It’s about taking risks in an intelligent manner.

Risk management is the identification, evaluation, and prioritization of risks followed by coordinated and
economical application of resources to minimize, monitor, and control the probability or impact of
unfortunate events or to maximize the realization of opportunities.

Risk management is the process of identifying, assessing and controlling financial, legal,
strategic and security risks to an organization’s capital and earnings. These threats, or risks,
could stem from a wide variety of sources, including financial uncertainty, legal liabilities,
strategic management errors, accidents and natural disasters.

Risk management is a nonstop process that adapts and changes over time. Repeating and
continually monitoring the processes can help assure maximum coverage of known and
unknown risks.

What is Credit Risk?

Credit risk is the possibility of losing money due to the inability, unwillingness, or no timeliness
of a counterparty to honor a financial obligation. Whenever there is a chance that the
counterparty will not pay an amount of money owed, live up to a financial commitment, or
honor a claim, there is credit risk.

There are 3 concepts associated with the inability to pay.

1.Insolvency – this describes the financial state of an obligor whose liabilities exceed its assets.
2. Default – failure to meet a contractual obligation such as through non- payment.
3. Bankruptcy - occurs when a court steps in upon default

Click this link https://youtu.be/ahJgK59g_Ro and watch the video.

Sample Cases
A company funds a rapid expansion plan by borrowing and later finds itself with insufficient cash flows from
operations to repay the lender.
Businesses whose products or services have become obsolete or whose revenues simply no longer cover
operating and financing costs.
When the scheduled payment becomes due, the company does not have enough funds available.

Note: A common feature of all credit exposure is that the longer the term of a contract, the
riskier the contract is, because every additional day increases the possibility of an obligor’s inability,
unwillingness, or non-timeliness of repayment or making good on an obligation. Time is also risky.
Three important steps of the risk management process are risk identification, risk analysis and
assessment, and risk mitigation and monitoring.

1. Identifying risks
Risk identification is the process of identifying and assessing threats to an organization, its operations
and its workforce. For example, risk identification can include assessing IT security threats such as
malware and ransomware, accidents, natural disasters and other potentially harmful events that could
disrupt business operations.

2. Risk analysis and assessment

Risk analysis involves establishing the probability that a risk event might occur and the potential outcome
of each event. Risk evaluation compares the magnitude of each risk and ranks them according to
prominence and consequence.

3. Risk mitigation and monitoring

Risk mitigation refers to the process of planning and developing methods and options to reduce threats to
project objectives. A project team might implement risk mitigation strategies to identify, monitor and
evaluate risks and consequences inherent to completing a specific project, such as new product creation.
Risk mitigation also includes the actions put into place to deal with issues and effects of those issues
regarding a project.
Type of transactions that create Credit Risk
Managing credit risk requires first identifying all situations that can lead to a financial loss due to the default
of counterparty.

1. Lending – there is a cash flow up front from the lender to the borrower with a promise of later repayment
at a scheduled time.
Example: Mr. Santos loaned P100,00.00 from Chinabank to finance his small business. He promised to
pay monthly within 5 years.

2. Leases – when a piece of equipment or a building is made available by an entity lessor) to another entity
(lessee) that commits to making regular payments in the future.
Example: Maria rented a condo unit for P20,000.00 and promised to pay the amount every end of the
month.

3. Accounts Receivable – the sale of a product or a service without immediate cash payment. The seller
sends an invoice to the buyer after the product has been shipped or the service performed, and the buyer
has a few weeks to pay.
Example: Marvin purchased a laptop using his credit card. The amount is due next month.
4. Prepayment of goods and services – delivery is expected at a certain time and of a certain quality or
performance. Failure of the counterparty may lead to loss of the advance payments and can generate
business interruption costs.
Example: Leni ordered food in Food Panda using the Cash on Delivery mode of payment.
5. Claim on Assets – a party’s claim on an asset in the custody of or under the
management of another party.
Example: ABC Company opens a savings account in China bank. The company has an initial deposit of
P1,000,000.00.

6. Contingent Claim – the claim is contingent on certain events occurring, such as a loss covered by an
insurance policy. At policy inception, the policy holder has no claim on the insurer. However, once the
insured suffers a loss, the insured has a claim. If the insurer fails to pay the claim, this will constitute a credit
loss.
Example: Mary signed up for life insurance 3 years ago. Yesterday she died due to Covid19.

Who is exposed to credit risk?

Based on the examples above we can conclude that all institutions and individuals are exposed to credit
risk, either willingly or unwillingly. However, not all exposure to credit risk is detrimental.

1. Financial institutions (Banks, Insurance Companies, Pension Funds)

2. Corporations

3. Individuals

***** EXPLAINED EACH ONE OF THEM BRIEFLY.

Why manage credit risk?

An important aspect of credit risk is that it is controllable. Credit exposure does not befall a company and its
credit risk managers out of nowhere. If credit risk is understood in terms of its fundamental sources and can
be anticipated, it would be inexcusable to not manage it.

All firms should devote significant attention and resources to credit risk management for their own survival,
profitability, and return on equity:
1. Survival. It's a concern primarily for financial institutions for which large losses can lead to
bankruptcy, but even a nonfinancial corporation can have credit losses that can cause
bankruptcy.

2. Profitability. It sounds trivial to state that the less money one loses, the more money one
makes, but the statement pretty much summarizes the key to profitability, especially of low-
margin businesses.

3. Return on equity. Companies cannot run their business at a sufficient return on equity if they
hold too much equity capital. Holding large amounts of debt capital is not the solution either,
because debt does not absorb losses and can introducemore risk into the equation. The key to
long-term survival is a sufficiently high amount of equity capital complemented by prudent risk
management.

What is the Credit Process?

The credit process is undertaken to review credit applications and determine whether a loan will be
granted to the applicant. The process seeks to determine the borrower’s ability and willingness to honor
payment obligations (including interest and principal) on time and in full.

The process also investigates the source(s) of funds from which the borrower will make to make an
informed decision. The institution must also understand the borrower’s industry and may undertake a
detailed analysis of how the business generates cash from its operating activities.

The lending institution applies credit analysis, which includes an analysis of both business risk and financial
risk to assess the probability of default. The process also allows the lender to make informed decisions
about structuring and pricing a loan.

The credit process involves several steps that can be broken down into initial and later stages.
1. Generating a Loan Opportunity - in the initial stage, the product team generates the loan opportunity.
Thereafter, the credit team undertakes a risk assessment that involves an initial analysis of the potential
borrower’s business. Credit analysis covers business risk and financial risk as part of the initial risk
assessment.

2. Reviewing the Five Cs of Credit- it might be noted that in credit analysis, financial institutions attempt
to mitigate risk by reviewing the five Cs of credit – capacity, capital, conditions, character, and
collateral. These five Cs provide lenders with a framework for identifying and mitigating risk.

3. Structuring the Loan - If the credit analysis yields a positive initial risk assessment, the bank must
structure the loan. The point of structuring a loan is to mitigate risk and includes details such as the identity
of the borrower, any complexities in the borrower’s corporate structure, and a payment schedule that
matches the borrower’s future cash flows.
4. Preparing a Credit Memo -Once the loan is structured, a credit memo is prepared. The memo includes
details such as the borrower’s debt capacity, clarification of risks involved, and how those risks will be
mitigated. The memo is presented to the bank’s credit committee, which decides whether to put the bank’s
capital at risk. At this stage, an application can be rejected even if it passed the initial risk assessment.
5. Loan Syndication - Should the credit committee approve the loan application, the loan will be
disbursed,
or in the case of a larger loan, a syndicate team will price the loan and distribute exposure to a group of
banks called a syndicate. The final terms between the banks are negotiated and then the funds are
disbursed. Thereafter, the loan will be monitored to ensure terms are met.

Target market is a specific group of potential customers who a business aims to reach with its products or
services. This group may share common characteristics such as age, gender, income level, education,
interests, or geographic location that make them more likely to be interested in and purchase from a
business.

The Credit Initiation and analysis process are described as beginning with screening prospective
customers, collecting data, analyzing risks, and structuring proposed credit facilities to minimize losses
while maximizing profit.

The objectives of the credit initiation and analysis process:

1. to ensure that loans extended by the bank meet credit policy guidelines and that credit standards and
procedures established in the credit policy are observed in all geographic areas where the bank is active.
2. The credit policy, updated periodically as necessary, should clarify what types of loans are acceptable to
the bank, what loan purposes, tenor, collateral, structure, and guarantees the bank will accept in its lending
activities. In other words,
3. The credit policy establishes threshold requirements that any prospective borrower must meet.
4. The credit initiation and analysis process should follow a typical diagnostic process flow, beginning with
screening of potential customers and data collection, followed by identification, analysis and measurement
of risks, and then moving to a series of specific risk evaluation and risk mitigation actions in preparing for a
credit decision

CREDIT INITIATION & ANALYSIS PROCESS

Screen prospective customers to identify highest quality prospects

Collect data for analysis of risks associated with prospective customers
Analyze risks associated with prospective customers
Using risk analysis as the basis, structure proposed credit facilities to maximize profit and minimize
potential losses
Prepare well-documented credit analysis package

CREDIT EVALUATION is the systematic assessment of an individual's or entity's creditworthiness,

considering financial data, payment history, and other relevant factors. Conducted by lenders, it informs
decisions on loan approvals, interest rates, and credit limits.
Credit evaluation is the process of assessing a person's creditworthiness by reviewing their credit history
and looking for indications of whether they may be able to repay their debts. To qualify for a loan, a lender
will want to be sure that the borrower can repay their debt in a timely manner.

What are the methods of credit evaluation?

Each lender has its own method for analyzing a borrower's creditworthiness. Most lenders use the five
Cs—character, capacity, capital, collateral, and conditions—when analyzing individual or business
credit applications.

The primary purpose of a credit review in the eyes of creditors is three-fold:

1) to determine if the potential borrower is a good credit risk;
2) to examine a prospective borrower's credit history, and
3) to reveal potentially negative data.

What is the evaluation of credit rating?

A credit rating is the opinion of a particular credit agency regarding the ability and willingness of an entity
(government, business, or individual) to fulfill its financial obligations in completeness and within the
established due dates. A credit rating also signifies the likelihood a debtor will default.

What is credit risk evaluation?

Credit risk analysis is the means of assessing the probability that a customer will default on a payment
before you extend trade credit. To determine the creditworthiness of a customer, you need to understand
their reputation for paying on time and their capacity to continue to do so.

Credit evaluation and approval is the process a business or an individual must go through to become
eligible for a loan or to pay for goods and services over an extended period. It also refers to the process
businesses or lenders undertake when evaluating a request for credit. Granting credit approval depends on
the willingness of the creditor to lend money in the current economy and that same lender's assessment of
the ability and willingness of the borrower to return the money or pay for the goods obtained-; plus interest-;
in a timely fashion.

What is credit risk rating system?

Rating systems measure credit risk and differentiate individual credits and groups of credits by the risk they
pose. This allows bank management and examiners to monitor changes and trends in risk levels. The
process also allows bank management to manage risk to optimize returns.

Who Evaluates Credit Ratings?

A credit agency evaluates the credit rating of a debtor by analyzing the qualitative and quantitative
attributes of the entity in question. The information may be sourced from internal information provided by
the entity, such as audited financial statements, annual reports, as well as external information such as
analyst reports, published news articles, overall industry analysis, and projections.

A credit agency is not involved in the transaction of the deal and, therefore, is deemed to provide an
independent and impartial opinion of the credit risk carried by a particular entity seeking to raise money
through loans or bond issuance.

A credit rating is, however, not an assurance or guarantee of a kind of financial performance by a certain
instrument of debt or a specific debtor. The opinions provided by a credit agency do not replace those of
a financial advisor or portfolio manager.

Presently, there are three prominent credit agencies that control 85% of the overall ratings market: Moody’s
Investor Services, Standard and Poor’s (S&P), and Fitch Group. Each agency uses unique, but strikingly
similar, rating styles to indicate credit ratings.
CREDIT RATING AGENCIES usually used letters. Below is the illustration of credit ratings:

What is the credit approval process?

To get credit approved, you provide the same paperwork you would when making a formal loan request.
The Loan Officer will ask you for employment and income verification and deposit and loan information.
They will also publish a credit report to assess your credit history.

The credit process involves several steps that can be broken down into initial and later stages.

1. Generating a Loan Opportunity.

2. Reviewing the Five Cs of Credit.
3. Structuring the Loan.
4. Preparing a Credit Memo.
5. Loan Syndication.

The credit approval process varies based on the type of credit you seek. Credit cards can take several
days, loans can range from days to weeks, and mortgages can take weeks to a month.
Documentation is written information that describes and explains a product, system, or
service. It can take many different forms, such as user manuals, technical guides, and online
help resources.

Documentation is typically used to provide information and instructions to users of a product or service,
and to support its development and maintenance.

Internal documentation is created and used within an organization and is typically not intended for
external use. It can include things like design and implementation plans, technical specifications, and
internal processes and procedures. Internal documentation is often used to help teams within an
organization understand and work with a product or service, and to support the development and
maintenance of the product or service.

External documentation, on the other hand, is documentation that is intended for use by external
stakeholders, such as customers, partners, or users of a product or service. It can include things like user
manuals, online help resources, API documentation, and technical guides. External documentation is often
used to provide information and instructions to users of a product or service, and to support their use of the
product or service.

What is the full meaning of implementation?

Implementation is the execution or practice of a plan, a method or any design, idea, model, specification,
standard or policy for doing something.

What is effective implementation?

Effective implementation refers to the successful execution and realization of planned goals or
interventions. It involves the proper execution of strategies, policies, or practices to achieve desired
outcomes.

What makes a good implementation?

Clear objectives are a crucial component of any successful implementation. Having clearly defined
objectives ensures that everyone involved in the implementation process is working towards the same goal.
When everyone is working towards the same goal, it becomes easier to prioritize tasks and make
decisions.

What is the meaning of remedial?

1. intended as a remedy.
2. concerned with the correction of faulty study habits and the raising of a pupil's general competence.
remedial reading courses.

What is remedial management in credit and collection?

Remedial Account Management Problem account – is one in which there is a major breakdown in the
repayment. agreement resulting in an undue delay in collection, or in which it appears legal action. may be
required to effect collection, or in which there appears to be a potential loss.

Remedial Management Plan means a plan, developed by the Council and approved by the Minister (the
relevant Federal Department), which reflects measures to be taken by the Council which are necessary to
remedy a default under this Agreement.

What are acquired assets in banking?

Real and Other Properties Acquired (ROPA) or more commonly termed as acquired assets are properties
acquired by the bank in settlement of uncollected loans or past due accounts not
paid upon its maturity.

What is net acquired assets?

Net Acquired Assets Value means the value of the Assets minus the amount of the Closing Date Balance
Sheet Current Liabilities.
What is the meaning of buying assets?
An asset purchase is when an individual, either with an existing entity or by forming a new entity (LLC or
Corporation), buys the assets of a business without buying the business itself. Asset Purchases entail
buying everything that the business owns (the Assets).

What does acquire assets mean?

What is an Asset Acquisition? An asset acquisition is the purchase of a company by buying its assets
instead of its stock. In most jurisdictions, an asset acquisition typically also involves an assumption of
certain liabilities.

A credit review is a thorough examination of an individual's or business's credit profile. It is essentially a

financial health check-up, offering insights into one's borrowing history, payment habits, and overall
creditworthiness.

A credit review is a periodic assessment of an individual's financial profile, often used to determine a
potential borrower's credit risk.

What is the purpose of a credit review?

The main aim of a credit review is to evaluate a potential borrower's credibility in repaying debt, making it a
crucial step in the lending process. It serves multiple purposes, the most prominent of which are gauging
creditworthiness, examining credit history, and revealing potentially negative information.

Nothing Follows

References
Bouteillé, S.and Coogan-Pushner, D. (2013), The Handbook of Credit Risk
Management, John Wiley & Sons Inc.
https://youtu.be/p7fSy1gsmkU.

https://youtu.be/ahJgK59g_Ro
MODULE 3: CREDIT EVALUATION

Learning Outcomes:

At the end of this module, the students can able to:

● DESCRIBE THE 5 C'S OF CREDIT AND THE CAMPARI MODEL

● EXPLAIN HOW OBJECTIVE CREDIT SCORING SYSTEMS ARE USED
● INTERPRET THE CREDIT SCORE AND CREDIT RATING OF BORROWERS
● EVALUATE CREDIT PROPOSAL AND APPLY CREDIT CRITERIA FOR A CREDIT APPLICATION.

WHAT IS CREDIT EVALUATION?

Credit evaluation is the process a business or an individual must go through to become eligible for a loan or
to pay for goods and services over an extended period. It also refers to the process businesses or lenders
undertake when evaluating a request for credit. This is where the decision is made to either approve or reject
the credit.

Legally, employers must receive written permission from applicants to do a credit check.

CREDIT CHECK

Credit Check means a customary credit and background investigation of a Person as typically required by
Lender in connection with underwriting a new mortgage loan borrower including, without limitation, performing
the following searches as to such Person: (a) judgment, (b) lien, (c) litigation, (d) bankruptcy, (e) UCC filings,
(f) civil and criminal records, (g) Patriot Act, (h) “know your customer” and (i) other similar searches as may
from time to time be reasonably required by Lender.

CREDIT TOOLS EMPLOYED:

A. Financial Statement Analysis – method of measuring and interpreting historical and future capacity of a
borrower.
B. Credit Investigation Report - A credit report contains your basic information such as your name, TIN,
SSS or GSIS numbers, place of residence, employer, and business. It will also include all of your loan
contracts with lending institutions, utility subscriptions, and other obligations which the CIC is authorized to
collect.
C. Appraisal Report (if collateralized) – this is the report that appraises the collateral presented.
D. Account Profitability Analysis
○ Tool that measures over-all profitability of an account
○ Considers the following factors.
■ Funds supplied by the client (deposit / placements)
■ Funds utilized by the client (borrowings)
■ Other products and services it avail.

Credit reports serve only as a tool made available for use of credit officers and approvers in arriving at sound
credit decisions.

In evaluating and coming to a decision, the bank or financier can rely on simple models. We have the 5 C’s
Approach and the CAMPARI which are subjective approaches and the Credit Scoring Models which aim to
be objective.
CREDIT RISK RATING SYSTEM

● Credit Risk Rating is a tool in credit evaluation used to quantify credit risk
● The rating of a borrower is a process integral to credit evaluation and aids identification of accounts
that need special attention.
● It does not replace a credit judgment of the credit officers.

5C’S

Character - To lenders this is the most important requisite and the most ifficult to measure precisely. The
bank needs to determine whether there is a willingness in the character to pay. Even if the character has the
capacity to pay, his/her credit may still be declined if his willingness to pay is questionable.

Factors to be considered in examining a character

● Past records of the client or credit history;
● Stability and duration of his employment / business
● Experience and qualification
● Reputation in the industry / Community
● Style of living

Capacity
Capital. This is the measure of the net value of a client’s assets. which form back up liquidity to meet
repayment.

Client’s capital can be determined by the following:

● Current level of liquid assets
● Current level of unsecured borrowings
● List of income sources
● Fixed expenses
● Contingent liabilities

Conditions
The lender should examine whether the client’s employment or business will withstand the unexpected things
that may happen to the economy, social and political, government regulations, competition, or changes in the
bank’s policies

Collateral
This is an item of value used to secure a loan. It is examined on its easy disposability and whether its
adequate as security.

Other 2Cs

COMMON SENSE
While there are concrete and quantifiable measurements which serve as tools to guide one’s credit decision,
arriving at a good credit decision has a lot to do with common sense and at times even gut feeling.

The purpose for granting credit must be clear and acceptable. The bank should not lend money unless it is
clearly understood what it is for and sometimes depending on the underlying transaction, even how it is going
to be used, when and where.

Be wary of granting credit to support the Borrower’s excessive business growth. The Borrower’s plans or
projections may be too aggressive
 ● All new ventures or start-up businesses are risky and thus would require greater scrutiny and more
solid mitigating factors.
● The amount of the credit facility should be (1) consistent with the purpose; (2) within the capacity of
the borrower to fully repay the credit on the due date.
● The amount of the credit should not be excessive relative to the borrower’s asset size, revenue level,
and the equity stake

CREDIT REPORTS
A credit report is a detailed summary of your borrowing and repayment activities. It contains your personal
and/or business information, as well as pertinent details of your loans, credit cards, mortgage, and other
financial transactions.

How credit reporting works in the Philippines

1.Banks and other financial institutions submit their clients’ credit information (both positive and negative) to
the Credit Information Corporation (CIC), the public credit registry and repository of credit information in the
Philippines.

https://www.creditinfo.gov.ph/

● Under Republic Act No. 9510, the Credit Information Corporation has the powers and functions
to receive and consolidate basic credit data, to act as a central registry or central repository of credit
information, and to provide access to reliable, standardized information on credit history and financial
condition of borrowers

2. The CIC compiles the collected credit information into in-depth credit reports.

3.The CIC shares credit reports of borrowers to lenders that are official accessing entities (submitting financial
institutions authorized by CIC to access basic credit data), and to their accredited credit bureaus.

4. Lenders use the information in credit reports to assess whether to lend money to a borrower or not.

How to get your CIC credit report

To get a copy of your CIC credit report, you need to first visit the CIC website and:
1. Click on “Services.”
2. Select the option “Get a CIC Credit Report.”
3. Read the Terms and Conditions carefully before clicking on the “I agree” button.
4. Select your preferred Date of Appointment.
5. Provide the needed personal information.
6. Download and print your Application Form.

You need to personally visit the CIC office located in Legaspi Village, Makati City, Philippines to check your
credit score through the credit report. To ensure the safety of your credit data, the CIC conducts a Know Your
Customer (KYC) process.

THE CAMPARI MODEL

Character- Willingness to pay versus ability to pay

Ability to repay - Adequacy of cash to meet repayment
Margin of finance- The client must contribute a certain margin as commitment. The bank
seldom grants 100% financing
Purpose - The purpose of the loan must be defined
Amount - The amount the lender is willing to contribute to the client. This prompts
a question, how much is too much for a client?
Repayment terms- The structure and terms of repayment
Insurance - In the event the borrower dies, the loan can be settled from insurance proceeds
THE CREDIT SCORING APPROACH

What is a Credit Score?

A credit score is a three-digit numerical value (ranging from 300 to 850) that indicates your ability to repay
your debts. The higher your score, the more creditworthy you are.

Your credit score tells lenders how likely you’ll pay back the money you will borrow based on your past
financial transactions. Likewise, your credit score tells you how likely you’ll be approved for a loan or credit
card.

Four factors affect your credit score:

● Payment history – Whether you’ve paid your loans and bills on time
● Credit utilization rate – How much you’re using your total available credit
● Length of history – How long it’s been since your accounts were opened
● Credit mix – Whether you have different types of credit such as car loans, personal loans, credit
cards, etc.

A credit score is an indicator of a person's creditworthiness, or their ability to repay debt. It is usually
expressed as a number based on the person's repayment history and credit files across different loan types
and credit institutions. Credit score is also known as a credit rating.

Credit Score Ranges

Fair Isaac Corporation, or FICO, is a major analytics software company that provides products and services
to both businesses and consumers.

Is there credit score in the Philippines?

Credit scores are a new concept in the Philippines, despite their existence for years.
Now, you can present your credit scores as a guarantee to acquire financing for a loan
with collateral. A good debt payment history and a financial track record make
applying for loans easier.

How to Know Your Credit Score in the Philippines

Your credit score is arguably one of the most important pieces of information about you and about your overall
financial standing.

Many Filipinos think that a credit score only matters when you need to be approved for a loan or a credit card.
It can affect many things, from insurance rates to employment opportunities. You might be asking yourself
now, “How do I check my credit score in the Philippines?”
One way you can know your credit score in the PH is by requesting for a CIC credit report.

Credit Report is the Basis for Credit Score Computation

Credit bureaus use the credit report from the CIC as their main source of credit information for calculating a
borrower’s credit score. They then analyze the data from the credit report to generate a credit score.

This is why the credit score is often referred to as “the snapshot of a credit report.” There would be no credit
scores without credit reports.
How do lenders compute my credit score?

Credit scores are calculated differently by lenders in the Philippines and are ultimately dependent on their
credit scoring models. You may also have different credit scores depending on the type of loan application.
For instance, a mortgage lender might use one scoring model, while an auto lender uses another.

Four factors affect your credit score:

● Payment history – Whether you’ve paid your loans and bills on time
● Credit utilization rate – How much you’re using your total available credit
● Length of history – How long it’s been since your accounts were opened
● Credit mix – Whether you have different types of credit such as car loans, personal loans, credit
cards, etc.

SAMPLE CREDIT SCORE

Credit Bureaus

The agencies that gather and distribute information about consumer creditworthiness are called credit
bureaus, or credit reporting agencies.

The credit bureau industry is dominated by three large actors: Experian, Equifax and TransUnion. In the
Philippines we also have three accredited agencies authorized by the Credit Information Corporation (CIC)
to access credit data.
Accessing Entities of the CIC may avail themselves of the services of the above-named accredited credit
bureaus/ Special Accessing Entities (SAEs) for web portal access, batch access, and application to
application.

One interesting feature about the credit bureau business model is how information is exchanged. Banks,
financing companies, retailers and landlords send consumer credit information to the credit bureaus for
free, and then the credit bureaus turn around and sell consumer information right back to them.

Credit Rating Agencies

Credit rating agencies estimate the probability of default for businesses and entities that issue debt
instruments, such as corporate bonds.

The global credit rating industry is highly concentrated, with three agencies— Moody's, Standard & Poor's
and Fitch—controlling nearly the entire market.

1.Fitch. Investment grade ratings from Fitch range from AAA to BBB. These letter grades indicate no to low
potential for default on debt. Non-investment grade ratings go from BB to D, the latter meaning the debtor
has defaulted.

2 Moody's assigns countries and company debt letter grades, but in a slightly different way. Investment
grade debt goes from Aaa—the likelihood of repayment dropping as the letter grade goes down. highest
grade that can be assigned—to Baa3, which indicates that the debtor is able to pay back short-term debt.
Below investment grade is speculative grade debt, which is often referred to as high- yield or junk. These
grades range from Ba1 to C, with the likelihood of repayment dropping as the letter grade goes down.
Highest grade that can be assigned—to Baa3, which indicates that the debtor is able to pay back short-
term deb

1.Standard & Poor's. S&P has a total of 17 ratings it can assign to corporate and sovereign debt. Anything
rated AAA to BBB- is considered investment grade, meaning it has the ability to repay debt with no
concern. Debt rated BB+ to D is considered speculative, with an uncertain future. The lower the rating, the
more potential it has to default, with a D-rating being the worst.

Illustration of the 3 Rating Agencies

A credit rating is used by sovereign wealth funds, pension funds and other investors to gauge the credit
worthiness of Philippines thus having a big impact on the country's borrowing costs.

MAKE AN UPDATES OF ALL THE FIGURES!

Credit Rating Agencies versus Credit Bureaus

● Credit Rating Agencies provide credit ratings while Credit Bureaus provide credit scores.
● Credit rating agencies are primarily for investors about companies and governments while Credit
Bureaus are primarily for governments and lenders about individual borrowers.
● Credit ratings are issued in letters while credit scores are issued as a number.
● The three largest Credit Rating Agencies are Moody's, Standard & Poor's and Fitch while the
three large actors of Credit Bureaus are Experian, Equifax and TransUnion.

What is the method of loan pricing?

Loan pricing is the process of determining the interest rate for granting a loan, typically as an interest spread
(margin) over the base rate, conducted by the bookrunners. The pricing of syndicated loans requires
arrangers to evaluate the credit risk inherent in the loans and to
gauge lender appetite for that risk.

A bank’s credit rating has a direct impact on its cost of funding and, thus, the pricing of its loans. Banks with
a high credit rating generally have access to lower cost funds in debt markets and low counterparty margins in
swap and foreign exchange markets. The lower cost of funds can be passed on to borrowers in the form of
lower loan pricing.

Your credit, debt and income can play a key role in determining your overall loan cost, so it's important to
know your current credit and take steps to improve it, if necessary.

How do you determine the price of a loan?

For example, if you have a P500,000 line of credit with a 6 percent APR and an interest-only repayment
period of 10 years, you will multiply the amount you borrowed by your interest rate. This would show your
annual interest costs. You then divide that figure by 12 months to determine your monthly payment.
What is Loan Structure?
Loan structure refers to the different characteristics that a lender can choose from when extending credit to
a borrower. Loan structure is also often referred to as credit structure.
Lenders always want to offer their borrower credit that is appropriate based upon the nature of the credit
request as well as the perceived risk of the borrower.
As a result, every loan has a variety of characteristics that make it unique from other loans. Examples include,
but are not limited to:

● Will the loan payments be interest-only, or will the principal outstanding reduce by way of regular,
periodic, or recurring payments?
● Over how many months (or years) will the loan be repaid?
● What is the interest rate of the loan?
● Will the loan have any specific physical assets that can serve as collateral security, or will the loan be
“unsecured”?
● What types of reporting (or other behaviors) will be required of the borrower in order to maintain good
standing with the financial institution that extended credit?

Key Highlights
● Loan structure may be influenced by a variety of factors, including the nature of the borrowing request
and the client’s risk profile.
● Elements of loan structure include loan-to-value (LTV), interest rate, amortization period, and
collateral security requirements.
● Financial services firms generally have credit policies that support their relationship teams in
structuring loans for prospective borrowers.

Loan Structure – Bottom Line

● World-class credit professionals understand how important it is to structure credit effectively, within
the context of both managing risk and the competitive landscape in which they operate.
● Many financial institutions and non-bank, private lenders have credit policies in place to help provide
guardrails for their relationship management teams to work within when negotiating loan terms with
prospective borrowers.
● Loan structure is a way to both mitigate risk and also to differentiate oneself in the market – assuming
that a lender is willing to be creative in how they structure credit for their borrowers.