Financial Credit means a letter of credit used directly or indirectly to cover a default in payment of any financial contractual obligation of the Company and its Subsidiaries, including insurance-related obligations and payment obligations under specific contracts in respect of Indebtedness undertaken by the Company or any Subsidiary, and any letter of credit issued in favours of a bank or other surety who in connection therewith issues a guarantee or similar undertaking, performance bond, surety bond or other similar instrument that covers a default in payment of any such financial contractual obligations, that is classified as a financial standby letter of credit by the FRB or by the OCC.
- It aims to establish proper financial institutions to cater to the needs of the weaker sections of the society.
- It intends to help people secure financial products and services at affordable prices. These include deposits, loans, insurance, payment services, etc.
- It aims to build and maintain financial sustainability so that the poor individuals are assured of the required funds.
- It intends to bring in mobile banking and/ or financial services to reach the weaker sections of the society living in remote areas of India.
- It intends to have numerous institutions that would offer affordable financial assistance, giving rise to adequate competition so that the clients have myriad options to choose from.
- It plans to improve financial awareness and financial literacy across the nation.
- It aims to bring in digital financial solutions for the economically weaker sections in the country.
A credit risk is risk of default on a debt that may arise from a borrower failing to make required payments. In the first resort, the risk is that of the lender and includes lost principal and interest, disruption to cash flows, and increased collection costs. The loss may be complete or partial. In an efficient market, higher levels of credit risk will be associated with higher borrowing costs. Because of this, measures of borrowing costs such as yield spreads can be used to infer credit risk levels based on assessments by market participants.
Losses can arise in a number of circumstances, for example:
- A consumer may fail to make a payment due on a mortgage loan, credit card, line of credit, or other loan.
- A company is unable to repay asset-secured fixed or floating charge debt.
- A business or consumer does not pay a trade invoice when due.
- A business does not pay an employee’s earned wages when due.
- A business or government bond issuer does not make a payment on a coupon or principal payment when due.
- An insolvent insurance company does not pay a policy obligation.
- An insolvent bank won’t return funds to a depositor.
- A government grants bankruptcy protection to an insolvent consumer or business.
A credit risk can be of the following types:
Credit default risk: The risk of loss arising from a debtor being unlikely to pay its loan obligations in full or the debtor is more than 90 days past due on any material credit obligation; default risk may impact all credit-sensitive transactions, including loans, securities and derivatives.
Concentration risk: The risk associated with any single exposure or group of exposures with the potential to produce large enough losses to threaten a bank’s core operations. It may arise in the form of single-name concentration or industry concentration.
Country risk: The risk of loss arising from a sovereign state freezing foreign currency payments (transfer/conversion risk) or when it defaults on its obligations (sovereign risk); this type of risk is prominently associated with the country’s macroeconomic performance and its political stability.
Credit analysis is the method by which one calculates the creditworthiness of a business or organization. In other words, It is the evaluation of the ability of a company to honor its financial obligations. The audited financial statements of a large company might be analyzed when it issues or has issued bonds. Or, a bank may analyze the financial statements of a small business before making or renewing a commercial loan. The term refers to either case, whether the business is large or small. A credit analyst is the finance professional undertaking this role.
One objective of credit analysis is to look at both the borrower and the lending facility being proposed and to assign a risk rating. The risk rating is derived by estimating the probability of default by the borrower at a given confidence level over the life of the facility, and by estimating the amount of loss that the lender would suffer in the event of default.
Credit analysis is important for banks, investors, and investment funds. As a corporation tries to expand, they look for ways to raise capital. This is achieved by issuing bonds, stocks, or taking out loans. When investing or lending money, deciding whether the investment will pay off often depends on the credit of the company. For example, in the case of bankruptcy, lenders need to assess whether they will be paid back.
Similarly, bondholders who lend a company money are also assessing the chances they will get their loan back. Lastly, stockholders who have the lowest claim priority access the capital structure of a company to determine their chance of being paid. Of course, credit analysis is also used on individuals looking to take out a loan or mortgage.
Credit analysis involves a wide variety of financial analysis techniques, including ratio and trend analysis as well as the creation of projections and a detailed analysis of cash flows. Credit analysis also includes an examination of collateral and other sources of repayment as well as credit history and management ability. As mentioned, analysts attempt to predict the probability that a borrower will default on its debts, and also the severity of losses in the event of default. The credit spread is the difference in interest rates between theoretically “Risk-free” investments such as U.S. treasuries or LIBOR and investments that carry some risk of default reflect credit analysis by financial market participants.
Capital: Indicates your level of seriousness. What you have personally invested in the company. The net worth figure in the business enterprise is the key factor that governs the amount of credit made available to the borrower.
Condition: The purpose and details of your loan. The loan officer and credit analyst must be aware of recent trends in the borrower’s work or industry and how changing economic conditions might affect the loan.
A loan looks very good on paper, only to have its value eroded by declining sales or income in a recession or by high-interest rates occasioned by inflation.
Capacity: How you plan of to repay the loan. For example, in most areas, a minor cannot legally be held responsible for a credit agreement; thus, the lender would have difficulty collecting on such a loan.
Similarly, the loan officer must be sure that the representative from a corporation asking for credit has proper authority from the company’s board of directors to negotiate a loan and sign a credit agreement binding the company.
Collateral: A form of security that guarantees repayment. The loan officer is particularly sensitive to such features as the borrower’s assets’ age, condition, and degree of specialization.
Technology plays an important role here as well. If the borrower’s assets are technologically obsolete, they will have limited value as collateral because of the difficulty finding a buyer for those assets should the borrower’s income falter.
Character: A look at your credit history, demonstrated responsibility and the integrity of your actions.
Control: The last factor in assessing a borrower’s creditworthiness status is control.
This factor centers on such questions as to whether changes in law and regulation could adversely affect the borrower and whether the loan request meets the lender’s and the regulatory authorities’ standards for loan quality.
Cash: This feature of any loan application centers on the question.
Does the borrower have the ability to generate enough cash to repay the loan in the form of flow. In an accounting sense, cash flow is defined as:
Cash flow = Net profits + Noncash expenses.
This is often called traditional cash flow and can be further broken down into
Cash flow = Sales revenues – Cost of goods sold – Selling, general, and administrative expenses- Taxes paid in cash + Noncash expenses.