Analysis Of Bank Decision Making For Overdraft Facilities, Loan Approvals, Credit Risk Management, And Franchise Financing

Question 1

As per the case study, Singapore Electronics is a company engaged in manufacture of supply components of smart phones and laptops. The company is experiencing liquidity crisis in day to day to day business operations. The company has a overdraft limit with a bank of $900000 which is exceed due to rapid growth in business and the company naturally requires more funds for smooth running of operations. As per the case study the company has approach another bank in order to increase its overdraft facilities. In this question the requirement is conduct the analysis of bank and how the bank will decide whether to allow the excess overdraft facilities.

As per calculation shown, the revenue of the company has increased from 31^st December 2016 by $310000 which shows the business is growing. The bank does a vertical analysis where abstract of revenue analysis and balance sheet is used. The overdraft of the company has increased in the second half that is 30^th June 2017 and thus the company needs more liquidity. Hence overdraft facility limit needs to be exceeded in the view of the company. Information about rolling period is given. Rolling period means the time which is taken to realise the cash. It shows the period and how many times cash flows or generated in a business. The information about rolling period of debtors, creditors and stock are given. Respective turnover ratio can be calculated and used in determine the liquidity position of the company. As the business is growing the bank will accept the company’s proposal to increase the overdraft limit for liquidity requirements. However suggestions can be made that if Singapore Electronics reduces the number of days provided to debtors to pay up on credit sales and improve their stock turnover ratio then the company will not be facing liquidity crisis.  

1. Loan facility is a line of credit which any business or individual can take for the purpose of financing business or personal purposes respectively from a credit providing institutions. Normally most of the credits which are taken by business and individuals come from banks(Ivashina, Scharfstein and Stein 2015). However there are other sources of taking a credit such as local lenders and non banking institutions. Large businesses prefer taking loans either by issue of debentures or by applying loan in a bank.

As per the given case study, a company based in Ibadan, Nigeria has applied for a loan in bank and the purpose of the assignment is to assess the loan facility provided by the bank and also the situation of the company which is taking the loan (Gbandi and Amissah 2014).

The approval of loan depends on certain number of factors which the bank will consider. For any bank or lending institutions the basic factors which they will consider before approval of loan are credit history of the borrower, business projections and cash flow analysis of borrower, collateral securities available for securing loan, the character of the borrower and his financial position, various documents which includes business and financial statements, income tax returns, strategic plan of how the loan will be used and other such documents which supports first four factors. These factors are now be discussed on the basis of the case study as available in the question

1. Credit history of the borrower: In any bank, loan facilities processing requires the bank to review the borrower’s credit history whether it is a company or an individual. In many cases banks require guarantees of individuals who may be sole proprietor, director, chairmen or CEO are required, therefore bank also reviews individual’s credit history as well as loan repayment competence. Credit score of the company or individual also plays an important role in credit approval. In the case study it is mentioned that XYZ technology Ltd is a customer of the bank and has applied for loan and assumption the company has a good credit history with the bank and has track record of four to five loan transaction.
2. Cash flow analysis and business projections: The bank will then check the cause of taking the loan and whether the amount mentioned by the client is required or not. Even if the loan amount is in excess in bank’s expectation, bank will still provide the loan provide appropriate securities are kept and the company’s cash flows are positive. All banks require the client’s cash flow statement in order to determine whether the company can meet the repayment of loan when the time comes(Finnerty 2013). As per the case study, there is no mention of cash flow or cause of loan therefore an assumption is made that cash flow is appropriate.
3. Collateral Securities: The main purpose of collateral securities is to minimize the risks which the lender undertakes when he lends credit. Collateral security includes properties, business projects which have similar value as loan amount, personal properties and all assets. In other words the loan amount depends on the collateral security(Altomonte and Bussoli 2014). In the given case study, as a guarantee the director of XYZ technology Ltd who looks after financial aspects of the company has given a personal guarantee on behalf of the company which will be acceptable in processing the loan facility.
4. Financial position and character of the borrower: Bank provides loan to individual persons and company considering the company’s character and track record. If a company was not consistent with repayment of loan in past will not be able procure loan easily in future as the character of the company is depicted. In the given case study a guarantee is given by the director and it will be considered to be appropriate.
5. Documentations: The borrower needs to submit necessary documents to the bank such as financial statement, business plans to use loan, collateral securities documents like property paper, land papers. XYZ ltd needs to submit such documents to the company.

Hence it can be concluded that the bank will provide the loan to XYZ technology Ltd based on above discussions.

1. Securities are financial instruments which can easily be traded in stock market. These securities include bonds, shares and convertible debentures. These are used by companies to raise funds either using equity shares or debentures. When such securities are listed is any security market then it is known as listed securities(Cox, Hillman and Langevoort 2016). The advantages of such securities are:
2. These securities can be easily traded in stock market which means it can be bought and sold easily in stock market.
3. The value of such securities are constantly shown in such stock market and are published accordingly therefore any change in value of such securities are noticed easily and then security holders can take their decisions based on such values.
4. Most importantly these securities are easily transferable form one person to another thus it means it is a liquid source of cash and thus favourable to a person when there is urgent requirement of cash.
5. The securities of stock markets are reliable collateral because most of the securities listed in security markets are government security. Hence these can be used in pledge, loan security.
6. These securities earn dividends or interest for their holders which maybe on a half yearly basis or yearly basis(Yuan 2015).

1. The right to lien is a right which allows a creditor in possessions of securities, goods or assets belonging to a debtor, to retain them until the final debt is cleared with the condition that there was no contract expressed or implied to the contrary. In other words right to lien allows a party to hold onto the asset while the payment which is due to the former is pending(Yun and Jia-lin 2013). The term lien in general means to possess. An example can be given of an individual who takes a mortgage loan which will require a collateral security on the basis of which the riskiness of loan can be reduced. The institution which provides the mortgage loan will have a right of lien on the collateral security until the loan amount is repaid. If in any circumstances the loan amount becomes bad debt than the lender institution can realise the value of loan from the collateral security in its possession.
2. A person having a valid will after his death is said to have died testate. In such a case the succession will take place according to the will. In simple words as per the will of the deceased person the estate of the deceased person will be distributed among the nominees. The only requirement is that the person should have valid will at the time of death of the person otherwise then it will be intestate succession(Reid, de Waal and Zimmermann 2015).
3. Cash flow Reports are used by companies to keep a record of cash inflows and outflows in a company.  Cash flow statement show the flow of cash in an organization in a year(Lee 2013). These include cash from operating activities, cash from investing activities and cash from financing activities. These statements are important indicators of how the business. A stakeholder can easily determine the health of the company by looking at the company’s cash flow statement.
4. A credit reference agency is an institution which collects information of credit ratings of individuals and provides them to banks and other finance companies. Theses agency provides credit score of companies and individuals to banks(Jeon and Lovo 2013). A credit reference means information regarding track records of individual or companies which shows credit worthiness of that individual or organisation.  The data provided by such credit reference companies are used by banks and other financial institutions to decide whether credit is to be provided to such individual or organisation or not.

1. A franchisee is a person who purchases a business right from the main company or franchisor to do business in the name of the franchisor with the condition of paying a franchising fee. The franchisee gets to use the name, technologies and business strategies of the franchisor company(Dant, Weaven and Baker 2013). The management decisions of the branch company established lies solely with franchisee owner and not the main owner of the company. However setting up a franchisee requires proper finance which is obtained in most of the cases by borrowings from banks or other financing institutions (Hodge, Oppewal and Terawatanavong 2013).

In the given case study Penny pincher wishes to establish a franchisee, but she does not have necessary funds. In order to get more funds she approach bank for financial help.  The first step that bank will be taking is to analyze the credit worthiness of penny pincher. Another thing the bank will consider is what business the franchisee wants to invest in and how profitable the business in current market. Secondly the bank will consider the popularity of the product in the market. It is a case in most of franchising business that a brand which successful in one country may not be as successful in another country. As per the case study Penny pincher has worked as a pharmacist therefore it is assumed that she will be opting for opening a franchisee of pharmacy only. The bank will review Penny’s credit history and track record of repayment of bank loan if she had any. The bank will also want some decent collateral securities as the loan amount as required by the franchisee will be of a significant amount. Therefore the bank will check whether she has enough collateral securities or not. In certain cases the bank also verifies whether the franchisee has valid trade license from both franchisor and the country where it will be operating business.

1. Liquidator is an officer appointed either by the company or stakeholders, who is involved in the process of dissolution of a business or winding up of a business. The main job of a liquidator is to ensure that there is smooth payment of all liabilities owed to the different classes of creditors as well as his own expenses in accordance with laws relating to liquidation(Nosworthy and Symes 2016). The role of liquidator is similar to a role of trustee. The main concern of the liquidator is that the stakeholders of the company are paid off first and then if sufficient cash is available then the owners of the company that is shareholder’s claims will be settled (Chakraborty 2014). The role of the liquidator are discussed in point form below:
2. The most important role of a liquidator is to realize assets of the company which is being wound up at best possible prices.
3. Settling of amount owed to different classes of creditors as per the relevant winding up laws of companies. The liquidator will pay off creditors of different classes by realizing the assets of the company.
4. The liquidators of the company at the time of liquidation of the company are mostly appointed by the stakeholders of the company. Therefore the liquidator will act in the best interest of the stakeholders of the company.
5. The liquidator has also powers to take actions against the directors of the company in case of any fraud which was committed by the company in the best interest of the creditors.

Credit risk may be defined as the risk which arises as a result of default in repayment procedures when a loan or credit is taken (Bielecki and Rutkowski 2013). Theses default may be in payment of interest amount in case of instalment payment of interest or payment of principal amount. Credit risk management is the process of identifying such credit risks and minimizing it as much as possible (Brown and Moles 2014).

The key elements of the of credit risk management are mentioned below:

1. The lending institution must have an effective loan review system and a proper loan review program.
2. Diversification of risk and creating a portfolio of different loan advances can help in credit risk management(Shim 2013).
3. Establish a guideline of how much collateral securities are required judging by riskiness and significance of the loan amount.
4. Appointment of credit officers so that they can review the business of the borrower company and also collect the principle and interest amount if the situation so arises.
5. Regular review of the business revenue statements and cash flow statements of the borrower company.
6. Reviewing proper documentation of collateral securities before granting the loan to the borrower.
7. Verifying the client’s track record about loan repayment in past and also company’s credit score analysis which will determine the credit worthiness of the company. 

References 

Altomonte, C. and Bussoli, P., 2014. Asset-backed securities: The key to unlocking Europe’s credit markets? (No. 2014/07). Bruegel Policy Contribution.

Bielecki, T.R. and Rutkowski, M., 2013. Credit risk: modeling, valuation and hedging. Springer Science & Business Media.

Brown, K. and Moles, P., 2014. Credit risk management. K. Brown & P. Moles, Credit Risk Management, p.16.

Chakraborty, A., 2014. Role of Official Liquidator.

Cox, J.D., Hillman, R.W. and Langevoort, D.C., 2016. Securities regulation: cases and materials. Wolters Kluwer Law & Business.

Dant, R.P., Weaven, S.K. and Baker, B.L., 2013. Influence of personality traits on perceived relationship quality within a franchisee-franchisor context. European Journal of Marketing, 47(1/2), pp.279-302.

Finnerty, J.D., 2013. Project financing: Asset-based financial engineering. John Wiley & Sons.

Gbandi, E.C. and Amissah, G., 2014. Financing options for small and medium enterprises (SMEs) in Nigeria. European Scientific Journal, ESJ, 10(1).

Hodge, C., Oppewal, H. and Terawatanavong, C., 2013. Determinants of franchise conversion: a franchisee perspective. European Journal of Marketing, 47(10), pp.1554-1575.

Ivashina, V., Scharfstein, D.S. and Stein, J.C., 2015. Dollar funding and the lending behavior of global banks. The Quarterly Journal of Economics, 130(3), pp.1241-1281.

Jeon, D.S. and Lovo, S., 2013. Credit rating industry: A helicopter tour of stylized facts and recent theories. International Journal of Industrial Organization, 31(5), pp.643-651.

Lee, T.A., 2013. Towards a theory and practice of cash flow accounting (RLE Accounting) (Vol. 50). Routledge.

Nosworthy, B. and Symes, C., 2016. The liquidator: a hybrid of agent, fiduciary and officer.

Reid, K., de Waal, M. and Zimmermann, R. eds., 2015. Comparative Succession Law: Volume II: Intestate Succession. OUP Oxford.

Shim, J., 2013. Bank capital buffer and portfolio risk: The influence of business cycle and revenue diversification. Journal of Banking & Finance, 37(3), pp.761-772.

Yuan, Y., 2015. Market-wide attention, trading, and stock returns. Journal of Financial Economics, 116(3), pp.548-564.

Yun, W.O. and Jia-lin, J.I., 2013. New Interpretation of Creditor’s Lien Evaluation of Institutional Improvement of China’s Future Civil Code. Journal of Tianjin University of Commerce, 1, p.012.