What banks consider to extend credit

Millions of businesses were threatened by Covid-19 pandemic, which has been followed by an economic crisis that has seen commodity prices shooting up since January.

For the business owner, you may want to maintain your business by buying more stock which requires more funds than you may have on hand. In case you’re running low on cash and are looking for options, it is better to understand your credit profile.

Before you apply for financing to close the gap, understand what banks look for when evaluating a loan application.

Mr Daniel Baboneirwe, a credit solutions consultant and banker for 27 years, advises business owners to look at banks like ordinary businesses.

He says a bank is a business just like any other.

“Although some people think you have to lie to the banks to give you money, the biggest thing is to give yourself value,” Mr Biribonwa says. 

According to him, once you give yourself value, the bank will also value you.

Mr Baboneirwe cautioned people who go to the banks thinking about default. “You just run to a bank and say, I have my security, it is worth Shs100m. Can I get Shs80m out of it? That is a wrong approach. The best thing is to understand how banks evaluate.”

When you mention the price, you are over pricing yourself, or putting yourself at a disadvantage in costing that credit.

He asserts that the oldest is the principles of good lending in a simple acronym ‘CAMPARI’. 

‘C’ stands for character, which is the personal integrity and good standing. Giving an example that among the people who go to secure loans banks know those people because they are of a good character and reputation.

This is closely tied to the success of the business.

‘A’ stands for ability to pay. ‘C’ and ‘A’ are the main two, ‘A’ shows good will and the ability to pay. However good you may be, if the business is not going to work out, your good will won’t just pay.

To understand the borrower’s ability to pay if given credit, banks look at the cash flow-- the main thing that pays the loans, not the capital. Here, they base on the  daily cash in and out. Does the borrower remain with enough cash that will settle the instalments of the loan?

 Then they look at profits and losses in the medium term. If you are making a loss, then your capital or the cash flow will eventually turn negative.

Mr Baboneirwe says in the long-term your balance sheet counts.

Here, banks check how it stands in line with what you own, those are your own assets in the business and the liabilities which are what you owe others who are trading with you.

If the liabilities are more than the assets, then your business will not last. In other words, banks consider the balance sheet, cash flow and profit and loss.

He says then ‘M’ stands for the magic, which is how much profit the borrower makes. If you are making a big margin, you are likely to grow faster and sustainably.

Then P stands for purpose, Mr Baboneirwe says there are purposes which are simply illegal.

“You cannot borrow to trade in Cannabis or build a bullet factory. The bullet factory may be profitable, but that is a reserve of government. So, it will not be a credit worthy proposal.”

That second ‘A’ in the acronym stands for amount. Sometimes you borrow less thinking you are going to be less risky, but if you borrow money which is not enough for the purpose, you are actually more risky than the one who borrowed the whole amount.

Mr Baboneirwe says the person who borrows enough will finish the project and participate in the repayment itself.

Then ‘R’ is for repayment. If it is a school and they are asking it to pay monthly, they are asking it to fail, because its cash flow is not on a monthly basis but quarterly.

That letter ‘I’ stand for insurance, in this case they mean collateral. Explaining that most people put too much emphasis on it. If you have not worked in line with what the other letters stand for, then insurance will work against you.

He adds that the dictum in credit is, “You should never lend someone with security if you cannot lend to them without security. That collateral is like insurance.”