The growth and development of the banking and financial sector has been propelled by factors driven by market demand and supply forces. We have seen banks coming up with various products not only to meet client demands but also as a means of remaining competitive given the number of players within the banking sector. Comparatively, customers now have a wider range of selection when it comes to choice of a banker.
Taking advantage of the technology banks have no choice but to keep on being creative and innovative on product development and service delivery channels. A review of financial performance of most banks reveals that lending/credit accounts for over 50% of the banks’ revenues. However, lending has increasingly become riskier thus pushing banks to equip themselves more on risk management through strengthening of credit culture where everyone, regardless of their roles, understands the need to drive revenue growth while also minimizing risk.
To enable this synergy, banks and financial institutions must assess the components of their institutional cultures, including training, communication, decision-making, and compensation. For many banks it is compulsory for officers engaged in the entire credit chain from marketing, origination, analysis, approval, documentation, control, recovery and so on to undergo certain credit courses. The quality of the credit portfolio of any bank reflects the quality of its credit team. How long it takes for a bank to build a strong credit culture depends, among other factors,on the resources allocated, commitments, and devotion of each one towards creation of credit culture compliance. Building a credit culture has to be an ongoing process.
While all efforts are being made by banks and financial institutions to build a strong credit culture it is imperative to look at what is happening from the client’s perspective. Any client of the bank must view the bank as its supplier of banking services. From a strategic point of view there is a need to ensure that a dependable relationship between the customer and the bank (supplier) is developed and maintained on a long term basis for mutual survival and growth of both the customer and the bank.
For borrowing clients the strength of the relationship is actually the starting point of building a strong credit culture for both the bank and the customer (borrower). When extending credit to a customer the lender (bank) feels more comfortable taking the risk if there is a well-entrenched relationship between the bank and the customer. Same comfort should be on the part of the borrower. It is in this situation that in the event of credit default the relationship between the two sides helps immensely to smoothen the recovery hurdle.
As part of building a strong credit culture from the borrower’s perspective the following suggested questions, at minimum, need to be addressed well by the borrower before approaching the bank:
- How is the relationship with the bank? The better the relationship the more likely the success of obtaining the credit.
- Is there an identified clear purpose (use) of the credit intended to be sought from the bank?
- Are there proper governance measures for the business to be financed?
- Is there sufficient future cash flow from the business to be financed by the credit from the bank?
- Does the business have capacity to take more debt? It is important to establish debt sustainability levels.
- Are all other resources such as human, technical, time and so forthother than finance, in place to ensure continuity of the business?
- Are costs of running the business including the cost of borrowing competitive compared to others within the same industry?
- What are the competitors doing?What are the short term and medium term strategies to remain competitive in the same industry?
- Are there other sources of financing such as trade suppliers, own sources, other providers of credit to support the bank borrowing?
- Dosuppliers including the bank have the ability, reputation and service competitiveness to continue supporting the business that needs to be financed?
- Are all credit requirements by the bank known and clearly understood?
- What are the key risks underlying the business, sector to be financed?
- What are the key success factors for the business to be financed?
- Are there legal and regulatory changes that may impact the business to be financed?
- Is there collateral that can be offered to the bank to cover the bank credit?
These are some of the pertinent questions that a borrowing customer must askoneself before approaching the bank to discuss credit. In most cases where these questions and many more depending on the policy of your bank are not addressed thoroughly the end result is usually frustrations by the borrower because the credit request will likely be declined by the bank. These questions will assist in building a strong credit culture which equally from the borrower’s perspective must be built continuously.
Credit culture is a disciple that must start with someone’s ability to forego, sacrifice, and tolerate some present financial use benefit in order to put aside funds to meet certain future obligations. The following diagramillustrates the discipline;
It starts with income; however modest it is we must build a culture and discipline of saving a certain percentage of that income, then some goes into investment followed by consumption and lastly borrower to cover the cash flow gap. This circle is mostly applicable to consumer credits but if we look at it critically it also applies to businesses. Once you develop that discipline of foregoing your consumption, obviously without killing oneself then it will be easy to repay borrowed funds because that discipline is already in place.
Now let us assume that the borrower has successfully obtained the credit/loan from the bank; should the borrower relax and celebrate? The answer is no because the risk of default must be closely monitored by the borrower. This monitoring from the borrower’s side will assist in managing any surprise call on the loan by the bank. At minimum the borrower needs to do the following:
- Ensure that the credit agreement and security documents work together. The contents must be well understood. Always seek advice from a legal counsel because these documents contain certain legal words that are mostly familiar to lawyers.
- Develop own checklist to track material default items as listed on the credit agreement. Engage the bank in advance should default signs pop up.
- Say no to any temptation towards diversification of borrowed funds.
- Track the credit repayment schedule. Notify the bank in advance should there be any adverse changes on the cash flows. Review the cash flow periodically.
- Track the reporting requirements on monthly/quarterly basis as per credit agreement.
- Create a checklist of key compliance terms.
- Always maintain an open dialogue with your bank and other suppliers. It builds trust.
Development of a strong credit culture by both the bank and the borrower will lead to a much stronger win-win business relationship.
The author, Gasper Njuu is a professional partner of TIOB.