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BFN405 BANK LENDING AND LOAN ADMINISTRATION Enumerate

the areas of operations on which bank policies are formulated.

Organizational structure employment of the personnel modalities of operations lending procedures

investment of funds
strategies for hedging risks in operations sectoral allocation of loans and advances remuneration of
personnel appointment of external auditors,

List and discuss the critical areas relating to lending for which banks normally set policies.

There are critical areas relating to lending that the banks do not normally take for grant in the
formulation of bank policies. Such areas for policy formulation on bank lending are as
identified and discussed below. Loan Limit
 Policies are normally set for the granting of loans by the various officers of the bank that are
directing involved in lending. In setting the magnitude of loan that can be approved by the
officers in charge of credits, certain factors are usually taken into consideration.
In terms of policy on loan limit for the officers, the following factors, among others, are taken into
consideration;
The position of the officer, e.g., a branch manager, senior loan officer; The experience of the
officer, e.g., 10 years in loan administration;
The level of expertise in sector of the economy, e.g., estate, agriculture, etc; Performance
of the officer in handling loans in the past; and
Understanding of the customers’ product markets.
In terms of the loan limit for the customers, the following factors, among others, are taken into
consideration;
Creditworthiness of the customer;
Performance on the previous loans, for old customer;
Performance of the business in the last five years, at least, for new customer; His market share in
the industry, e.g., 5%, 10%, 25%, 35%, 45%, 60%; Geographical area of operations, e.g., a town,
city, suburb, village, farm settlement;
His operational capacity, e.g., medium-scale , large-scale operations; Level of demand for his
product or service in the economy; Magnitude of cash inflows on periodic basis; and
Customer’s character and other personal qualities.
Furthermore, grading system can be used for setting the policies on loan limit such as portrayed by
the figure (2.1) below.
Figure 2.1
Categorization of omments oan Limit (N)
Customers for Loan
imit Grade
A lue chip company 0,000,000
B Government Agency 0,000,000
C arge Company ,000,000
D Medium Company ,000,000
mall Company ,000,000
ndividualized Business 00,000
The individualized business refers to business entity such as partnership and sole proprietorship,
having operational capacity that is not comparable with an incorporated company whose asset base
is very reasonable in terms of operational capital.
However, there is no hard and fast rule in the categorization of customers for the purpose of loan
limit. A grading or categorization system being used by any bank for setting loan limits on
customers depends on choice.
In related terms, such categorization of loan limits can be also be used to set loan mandate for the
officers of the bank when it comes to approval of loans for the customers.
In the case of the branch manager, the usual policy on loan limit is for the bank to set the amount of
funds that he or she can lend out to a customer. The limit is regarded as his or her authority in
lending, and any loan request in excess of such lending authority will have to be communicated to
the head office for advice.
A loan request in excess of the branch manager’s authority in lending can as well be communicated
to the area manager who may have the authority to sanction it without recourse to the head office
for the necessary approval
Loan Supervision
It is very important for the bank to set policies on loan supervision. The policies on granting of
loans, their supervision, and recovery drive are normally established taking into consideration the
relevant strategies used in the past and those ones being utilized by other banks.
Bank policies on loan supervision are used to address responsibilities such as: Teams to be
constituted for checks and balances;
Superior officer(s) to be in charge of reports and evaluation, e.g., an Executive
Director at the head office, a Senior Manager at regional office;
Time line for periodic reviews of loan portfolio for compliance on laid down regulations; Number
of loan recovery visits to customers who are loan beneficiaries in a period.
Charting out procedures for compliance with extant banking laws and regulations on loan facilities;
The rate of interest to charge in line with prevailing market rate and bank rate; Spread of available
funds for different sectoral allocations; and Repayment drive to keep pace with liquidity needs.
Credit Risk Management
A policy should usually be established for the management of the credit risk in terms of the
problems that can emanate from loan recovery by the bank.
The policy is on the following areas of responsibilities: Manager’s responsibility in preventing
credit risks; Assistant Manager’s responsibility in credit risk management;
Loan officers’ responsibility in preventing credit risks; Hierarchical authority for handling credit
risks; and
Actions necessary in managing difficult beneficiaries of loans.
There are other areas of responsibilities for the management of credit risks by various bank
officials, which are not covered by above list. Therefore, the list is by no means exhaustive for the
purpose of credit management of credit risks by the banks.
Managing Difficult Loan Beneficiary

There should be policy on how a difficult loan beneficiary can be managed by relevant bank
officials. Such policy should be used to specify the necessary actions to be initiated and taken by
the bank officials to recover the amount of loan involved in the transaction.
The necessary directives in managing difficult account involve the following considerations: The
use of committee for the recovery of the funds; Discussion with the difficult customer by the
bank officials;
Visit to the business premises of the customer for assessment;
The use of subtle pressure on the customer, e.g., threat of legal action; Constant visits for help in
managing the affairs of the customer;
Threat of disposing off the collateral security pledged for the loan; and
Legal letter on the status of the customer and the plan to take action on the business for the recovery
of the outstanding amount of loan.
In addition to the above, there are other areas for policy actions on difficult customers, which
various banks can formulate to manage them. More so, necessary responsibilities for the
management of the difficult customers are formulated and assigned to various bank officials, which
are not covered by above list. Therefore, the list is by no means exhaustive for the purpose of
managing difficult customers by the banks.

Controlling Customer Accounts

Policy on controlling the account of the customer who is a loan beneficiary is also necessary for
consideration in establishing banking policies. The control of customer account is necessary
because of the fact that a customer can be playing pranks on the repayment of loan and payment of
interest on such funds.
The policy on control of customer account always emphases the following considerations:
Constant monitoring of repayment status; Periodic statement being issued to the customer; Constant
reminder on outstanding balance of the loan;
Computer alert sent to the customer whenever any payment is made;
Any discrepancy such as delay or amount less than expected in repayment be communicated to the
customer immediately;
Computer alert on due date for next payment be sent to the customer on monthly basis; Monitoring
of withdrawals from the customer account as not to jeopardize repayment of funds loaned to him or
her.
The above list is by no means is exhaustive, and therefore, it is left for individual banks to decide
on the necessary considerations in this respect. Monitoring and Review of Customer Case
This is done to evaluate the performance of a customer’s account. It is necessary in the management
of the bank’s liquidity particularly in the case of big time customers of the bank. In addition, there
is every likelihood that such customers will use their accounts to demand for overdraft or loans in
the course of their operations.
There are areas on which policies can be established for such purpose. The following can be used to
monitor the account of such customer who are known for keeping large amount of funds in their
account:
i) Account Turnover
A policy on the account turnover involves giving directive for the monitoring of the amounts of
funds earned by the customer by calculating the credits to the account. The performance of such an
account will be evident from the assessment.
An action should be initiated on any decline in the figures of deposits in terms of discussion with
customer for necessary advice. In the same vein, observed frequency of deposits should be
treated with optimism since it measures operational success of the customer’s business, which is
of tremendous benefit to be bank. ii) Trends in Account Balance
The periodic deposits can be calculated on average basis at the end of every monthly in order to
assess the trends in account deposits of the customer. The analysis thereof can reveal the peaks and
declines in the deposits for the use of the bank in considering granting of loans or overdraft in the
future.

What are the considerations for inviting bank customers to make loan request?

performance of such customers in the operations of their bank accounts;

the size of their business undertakings; the nature of their business operations; their market share in
the industry;
the personal integrity of the customers; level of
liquidity of the bank; business focus of the bank;
and type of banking operations, e.g., investment
banking.

Mention and discuss the events involved in lending procedure.

LOAN REQUEST FROM CUSTOMER

In the process of lending of credits, it is the normal practice that a request be put forward by an
applicant who is customer of the bank for a credit facility for the operations of a business entity or
to prosecute a certain project which is expected to be self liquidating.
Nevertheless, some customers of the bank may be approached by the bank managers or credit
officials of the bank to convince them to apply for credit facilities. The bank officials normally take
into consideration certain factors before initiating the move in drawing the attention of some
customers that they are entitled and qualified for credit facilities.
Such move by the bank officials is normally based on the following considerations: performance
of such customers in the operations of their bank accounts;
the size of their business undertakings; the nature of their business operations; their market share in
the industry;
the personal integrity of the customers; level of
liquidity of the bank; business focus of the bank;
and type of banking operations, e.g., investment
banking.
In general terms, therefore, the request for loan facility of a customer can be initiated by both the
customer and the bank. This is often based contacts and good banking relationships between the
bank and their customers. Hence, it is not uncommon for the bank's loan officers and the managers
to solicit new accounts from individuals and firms operating in the bank's market area with the idea
of convincing them with offer of loan facilities.

INTERVIEW WITH LOAN OFFICER

The scheduled interview of personal interaction between the loan officer and the applicant for loan
facility is considered necessary in lending procedure. The interview is very critical in view of the
fact that there is need to confirm the necessary claims by the customer who is seeking for the credit
facility. The interview is normally conducted on the strength of the loan form filled and the analysis
of same by the loan officer or loan committee as the case may be.
The loan interview provides an opportunity for the bank's loan officer to assess:
the customer's character and sincerity of purpose; planned utilization of the
funds;
actual amount of funds sufficient for the project involved; applicant’s business acumen in utilization
of the funds; nature of applicant’s business operation;
means of ensuring prompt repayment of the loan; and applicant’s understanding of the implications
of loan obligations.
Therefore, the loan interview is desirable because it can be used to extract some additional
information from the loan applicant, which can go a long way to help in giving favourable
consideration, or otherwise, to the loan request.

SITE VISIT BY BANK OFFICIALS:

It is desirable that the bank officials, and not only the loan officer, pay schedule visit to the business
premises of the loan applicant. The visit of a team of bank officers to the customer’s business is
imperative because the applicant for the loan facility may not supply the necessary information
upon which a decision will be taken.
The visit to the customer’s business becomes inevitable for the following reasons: If a business loan
or mortgage loan is applied for; When a mortgage loan is involved;
To verify the claims of the customer;
To assess personally the nature of customer’s business
To determine the actual scale of the customer’s operations; Assessment of the location of landed
property for security; Assessment of organizational setup of the customer’s business; and
Determine supplementary information for decision on the request.
There are other advantages that can be derived from schedule visit by bank officers to the customer
who is requesting for a loan facility from the bank. Therefore, the above list is not exhaustive.

EVALUATION OF LOAN REQUEST

The final aspect of the lending procedure is the evaluation of the loan request before a decision is
taken on whether or not to grant the request. In order to evaluate the loan request, the following
considerations are assessed.
1. Financial Statements and Documentation
The financial statements and documentation needed for loan evaluation include: Income statement
of the business for some years;
Balance sheet of the business for some years; and board of
directors' resolutions authorizing the loan with the bank.
In the case of a new business, the necessary financial projections on income generation and
statement of affairs for some years, which are incorporated in the feasibility study report, will have
to be used for evaluation.
2. Credit Analysis
The credit analysis is used for determining whether the customer’s business will be generating
sufficient amount of cash inflows for the regular repayment of the loan. In addition, the backup
assets of the business will also be assessed for the purpose of the business’ capacity to generate
needed funds with which to repay the loan.
3. Reference Checks
The loan officer will have to assess the references made and received on the loan applicant in
addition to information form contact with other creditors who have previously loaned money to this
customer. In the case of the new loan applicant, there is the need to crosscheck the guarantors’
background information to ensure that such people are credible. This is necessary in order to
guarantee that people who are being used as guarantors are not loan defaulters in other banks who,
therefore, cannot be trusted for such responsibility.
4. Perfecting the Bank’s Claims to Collateral

PREPARING A LOAN AGREEMENT

Once the loan and the proposed collateral are satisfied after the evaluation, the necessary loan
agreement form and other documents that make up the agreement are prepared. The documents are
both signed by the loan officer of the bank and the customer who benefits the loan facility. There is
also the need for the guarantors to sign the documents before the final seal.
The necessary documents, such as financial statements, security agreements, etc, that must
accompany each loan application, must be kept in the bank's credit files with loan agreement and
guarantors’ forms signed by them.
The principal components of a loan agreement include the following:
i) The Note:- This is the credit document that incorporates the details regarding the amount a
borrower must repay & the terms involved. ii) Loan Commitment Agreement: This refers to
pledges entered into by the bank as lender to make credit available to borrowers in the future for a
stipulated time under specific terms. iii) Collateral Security: This refers to the assets or pledges of
value that can be turned into cash to support the repayment of a loan.
iv) Covenants: These are restrictions in the loan agreement that require a borrower to do or not
do certain things while the loan agreement is in force without first receiving lender approval.
v) Warranty: It refers to a written stipulation or assurance by a borrower that information
supplied in a loan application is true. vi) Events of Default: There is always a portion of a loan
agreement which describes or spells out what action or inaction by a borrower would violate the
terms of a loan.

What are the reasons which inform lending and credit administration by the banks?

Safeguarding the funds of the depositors;

Generating enough funds to meet depositors’ demands; Ensuring their profitable operations;
Protecting the interest of their shareholders;
Ensuring efficient administration of lending and credits; Ensuring positive capital base for their
operations; Protecting the values of the shares in the capital market; Properly aid the growth of
industrial undertakings; and
Creating conducive environment for economic development.

What are the necessary administrative measures for managing problem loans?
Committee’ s actions for the recovery of difficult loans; Mutual discussion with the beneficiary of
the loan; Planned contact for assessment of beneficiary’s premises;
Threat of legal action against the beneficiaries Offer of restructuring of beneficiaries’ operations;
Threat of sale of securities for the loan; and
Representation to beneficiaries on plan to take over their business operations.

Mention and explain the main objectives of lending and credit administration.

1. Ensure the Liquidity of the Bank

One of the objectives of lending and credit administration is to ensure that the bank is always in
liquid position to meet the demands of the depositors. This is the uppermost objective in bank
lending because banks only make use of depositors’ money for business. And since such depositors
are entitled to their funds as often as they so desire, banks lend money for a short time in most
cases.
This is informed by the fact that the banks only lend money which is generated mainly from the
deposits which can be withdrawn at any time by the depositors. Basically, therefore, banks advance
loans from the deposits on the consideration that their collection will be effected on periodic basis.
Furthermore, the major consideration in government securities is that the investment in treasury
bills and certificate is secured and they can be easily marketable and convertible into cash at a short
notice.
2. Guarantee Prompt Repayment of Loans
Another objective of lending and credit administration is to ensure that the funds committed into
loans and advances are promptly repaid by the beneficiaries. Banks always ensure that the
depositors’ money is safe in the sense that the borrower should be able to repay the principal
amount and the interest charges involved in loans.
The administration of lending and credits by the banks is managed in such a manner that the funds
are repaid at agreed regular intervals without defaults. The repayment of loans by the beneficiaries
depends on their capacity to generate enough funds from their projects, besides the fact that their
character which are normally evaluated before loan approval.
In essence, the banks lend funds to the customers based on the financial standing of their business
in terms of regularity of cash inflows with which to repay the loans. The banks also take into
consideration a less risky business for loans to ensure the safety of the funds and their prompt
recovery from the borrowers.
In the case of new business ventures, the banks would also grant loans for those enterprises whose
owners command good character and have adequate capacity to repay the loans. The new business
venture should have sound financial projections in 45
relation to the technical feasibility and economic viability of the project for which the loan is
granted.
3. Ensure Balanced Loan Portfolio
An objective of lending and credit administration is the need to ensure that there is a balanced
portfolio in terms of the composition of loans and credits being granted to customers.
This means that in the process of granting loans and credits to customers, the banks consider the
composition of the loan portfolio so as to maintain balanced diversity of the assets. This is view of
the fact that the spread goes a long way to guarantee the safety of the banks funds. This is important
for the banks’ profitable operations and liquidity so as to protect the interest of the depositors as
well as that of the shareholders.
It implies that the loans and credits being granted to customers are not concentrated in a particular
sector but in diverse sectors of the economy. This is in conformity with the policy of the apex bank
in terms of extending loans to various productive industries and businesses for balanced growth and
development of the economy.
The spread of the loan portfolio to various productive sectors of the economy is also imperative
towards minimizing risks that are always associated with lending of funds. In this regards,
commercial banks take appropriate measures to spread the risks of investment in loan and advances
portfolio by considering various trades and industries.
4. Guarantee Constant Stream of Cash Inflows
Another objective of loan and credit administration is to guarantee constant stream of cash inflows
from loans and advances for the banks’ liquidity. Therefore, commercial banks will only grant
loans and advances to customers whose business ventures have the potential of earning enough
funds with which to repay the principal amounts and the interest charges.
In order to ensure constant inflows of funds from loans and advances, the banks normally put in
place some administrative measures towards assessing that such credits are the types that would
generate stable incomes with which to repay the funds.
For effective management of lending and credits, customers’ loan applications are normally
scrutinized by appropriate loan officers and committees in charge of credit

facilities so as to choose those ventures that are capable of generating constant income with which
to service the loan and make repayment on regular basis.
It is the responsibility of the credit officers and the committee to also evaluate new projects using
their technical feasibility and economic viability reports to determine the nature of cash inflows in
terms of their nature of earnings. Such assessment will be used for the selection of the projects that
can generate enough funds for repaying loans and credit facilities.
In the case of existing business, the usual practice is for the bank to request for financial reports of
the business which incorporate relevant data for five years. This will be used in evaluating the
regularity of generation of earnings. And the assessment is used to determine the stability of income
from the business for the repayment of loan facility.
5. Earn Adequate Returns from Lending
An objective of loan and credit administration is to generate adequate earnings from lending and
credits, which are very important to the operations of commercial banks. Loans and advances are
usually granted to customers with the intention of earning some income for the banks. The income
from lending facilities comes mainly from the interest charges being made from loans advances
being granted to customers by the banks.
The rate of interest being charged on loans and advances by the banks is normally determined in
consideration to the prevailing interest rate and the ruling bank rate sanctioned by the apex bank in
the economy. Such bank rate is called the monetary policy rate in the country, as determined by
Central Bank of Nigeria.
The interest rate being charged on loans by the commercial banks is normally determined in relation
to the bank rate being charged by the apex bank, the former being higher than the later. In addition,
the banks incorporate some other charges as may be determined by the lending officers or the credit
committee.
6. Ensure Effective Supervision of Lending
Another objective of loan and credit administration is to ensure effective supervision of lending by
the banks. In order to ensure that lending operations are proper supervised, the banks normally set
administrative policies on loan supervision. In this regards, administrative policies are established
on supervision of credit facilities, their recovery drives, and personal visits by bank officials to the
loan beneficiaries.

The relevant supervision policies are normally established in relation to the past strategies and those
methods being used by the other banks in the industry. In order to ensure effective loan supervision,
these policies are used: supervisory teams, reports and evaluation, time line for periodic reviews of
loan recoveries, loan recovery visits, procedures for compliance with banking regulations,
appropriate pricing of loans and credits, and loan recovery methods.
7. Efficient Management of Credit Risk
An objective of loan and credit administration is to ensure efficient management of risks associated
with loans and advances. In this regard, administrative measures are established by the banks for
management of the credit risk in respect of grave problems which can arise from loan recovery by
the bank.
The banks do formulate administrative measures for the management of credit risks by assigning
responsibilities for; branch managers in preventing credit risks; senior officers in credit risk
management; loan officers in recommending only loans with minimal risks; credit committee
for assessing and handling credit risks; effective supervision to minimize defaults in loan
repayment; managing accounts of loan beneficiaries; constant visits to loan beneficiaries; and
actions necessary in managing difficult loan beneficiaries.
The objective is to eliminate or minimize the hazards and perils that loans and advances can present
to the operations of banks. The measures for controlling loans and advances in order to manage
their risks may differ from one bank to another.

Mention the responsibilities of a loan committee of the commercial bank?

To review major new loans; Review major loan renewals; Ascertain the reasons for renewal;
Assess delinquent loans & determine the cause of delinquency; Ensure compliance with established
lending policy;
Ensure full documentation of loans before disbursement; and Ensure
consistency in the treatment of loan customers.
The responsibilities of a loan committee as stated above may not be exhaustive and therefore,
individual bank may include other duties for the committee to discharge.

Mention the factors that influence the rate interest being charged for bank loan.
The bank’s cost of funds;
The riskiness of the borrower; Compensating balances & fees; Interest rates charged by
competitors;
The ruling bank rate in the economy; and
Other banking relationships with the borrower

Mention and discuss the modalities for lending and credit administration.

1. Loan Budget and Composition

It is an ideal practice for commercial banks to determine the amount of funds which will be devoted
for loans and advances in a given period of time taking into consideration the requirements of the
regulatory agency. Hence the banks determines total amount of loans and advances for a particular
period, maximum amount for a single case, and average amount of lending to be made per case. In
terms of composition of loans and advances that will be granted to customers, the banks consider
issues such as types of loan and advances, sectors, sub-sectors and
industry mix, investment or equity participation, and productivity sector favoured by the
government.
2. Loan Committee and Authorisation
It is also a common practice for commercial banks to institute a loan and advances committee to
deal with major credit decisions. There are some responsibilities which the loan committee is
expected to perform.
Such responsibilities or duties of the loan committee may, among others, include the following:
To review major new loans; Review major loan renewals; Ascertain the reasons for renewal;
Assess delinquent loans & determine the cause of delinquency; Ensure compliance with established
lending policy;
Ensure full documentation of loans before disbursement; and Ensure
consistency in the treatment of loan customers.
The responsibilities of a loan committee as stated above may not be exhaustive and therefore,
individual bank may include other duties for the committee to discharge.

3. Periodicity and Loan Grading System

In terms of periodicity, the duration of loan composition is very critical. Therefore, the basic
considerations are call loans, short-term working capital loan, intermediate-term investment loan,
and long-term investment loan.
A typical grading system for loans and advances is as presented below, which indicates
classification of loans in terms of their likely performance. The classification is as follows:

Grading of Loans and lassification

Advances Grade
A op Grade Loan
B Good Loan
C Marginal Loan
D Doubtful Loan ikely Bad Loans
5. Expected Revenue from Loan
The expected revenue from any loan facility to the bank is referred to as the pricing of the loan,
which is the lending cost plus the profit inherent in the facility. It is expressed formula wise as:
Lending Cost = Cost of fund + Cost of lending operation + Liquidity of the advance + Risk.
The rate of interest in relation to the cost of the fund to the bank definitely partly determines the
amount of profit that can be earned from a loan facility. The interest chargeable on loan is
normally considered in relation the bank rate of the apex bank; the former being above the latter.
The interest rates being charged on loans by the banks may depend on factors, which are in the
following areas: The bank’s cost of funds;
The riskiness of the borrower; Compensating balances & fees; Interest rates charged by
competitors;
The ruling bank rate in the economy; and
Other banking relationships with the borrower
6. Assessment of Credit Risk & Compensating Balance
It is always a practice for the bank to assess the risk involved in the loan being granted to a
customer. This calls for determining the risk average in relation to previous loans that are similar to
the loan under consideration, the types of risk involved, and the insurable risk that should be
insured by the bank.
It is always necessary for the bank to retain some funds in the loan account of the customer which is
regarded as the compensating balance. This is considered in line with the bank’s right of offsetting
deposit balance for an outstanding loan and the method of computation of compensating balance
7. Loan Approval, Documentation & Accounting Record
The process of the loan approval refers to the necessary considerations which are taken cognizance
of towards the final decision on loan request. Such considerations include the following issues:
Sanctioning limits of various types of loans; Delegation of Authority;
Uniform Presentation Format & Standards; Descriptions of the client;
Assessment of management; Pricing Policy;
Purpose of the loan request;
Repayment schedule & source of repayment;
Secondary sources of repayment including collateral values & guarantors; History of past
borrowing with the bank; Required monitoring steps;
Timing of submissions of financial statement; The loan Decision; and
Loan officer’s comments including consistency with policy.
More considerations can be included in the above list for effective loan approval process. The
documentation starts from the time that the customer applies for the loan. Therefore, the documents
to be kept bank include application form filled by the customer, evidence of security, loan
agreement, credit reports, referee forms, and financial statements, among others. The necessary
considerations for the accounting records include recording procedure to be followed, loan and
project profiles to be maintained, statements to be provided by the customer, and loan recovery
recording, among other accounting records to be maintained by the bank.

8. Collection Procedure & Handling Problem loans

In terms of collection procedure, there are critical considerations which include repayment schedule
as prepared by loan officers, remainders & circular letters to be
sent out on periodic basis, constant personal visits by the credit officers, and collection the
principal payment and interest charges on the loan necessarily through cheques.
The procedures for managing problem loan problems and their beneficiaries involved the following
considerations:
Criteria to be used for identifying problem loans; Methods to be used for identification problem
loans;
Steps to be taken in managing the loans and their beneficiaries; and
The issue of setting up loan reserves for managing such risk

Mention and explain the considerations for initial evaluation of loan request

1. Purpose of the Loan

The bank will be interested in determining the purpose of the loan so that the funds from the loan
would not be used for illegal business activities or unproductive project. Therefore, the bank
would assess that the reason for the loan is not related to; speculative business; illegal business
transaction; fruitless venture; self aggrandizement; failed venture; money laundering; dealing in
arms or weapons; political agendas, etc
Once the loan request is not connected to any of the above subject or business, the request will be
qualified for consideration by the bank.
2. Amount of the Loan
It is also the practice for the commercial banks to take into consideration the amount funds that a
customer is prospecting for. The amount of funds that is incorporated in a customer’s loan request
will be assessed by a commercial bank in relation to:
available funds for lending; the
liquid position of the bank;
regulation of the apex bank;
amount of loan already committed to the industry;
pace of loan recovery; trend in volume of
withdrawals;
pattern of deposits; and quality of deposit accounts. 72

The assessment of the amount in relation to the above issues will make the bank either to grant the
whole amount or decrease it.
3. Reason for the Loan
The banks will also be interested in determining the main reason which informs the customer’s
request for loan. The reason for the loan will enable the bank to classify the request in relation to
broad-based categorization as shown below.
Real estate loans:- short-term loans for construction and land development and longer-term loans
for the purchase of farmland, homes, apartments, commercial structures, and foreign properties.
Financial institution loans:- loans to other banks, insurance companies, finance companies, and
other financial institutions.
Agricultural loans:- loans to finance farm and ranch operations, mainly to assist in planting and
harvesting crops and to support the feeding and care of livestock. Commercial and industrial
loans: to businesses to cover expenditures on inventories, paying taxes, and meeting payrolls.
Loans to individuals:- credit to finance the purchase of automobiles, appliances, and other
consumer goods, equity lines for home improvements, and other personal expenses Lease
financing:- to corporate firms on equipment or vehicles.
The categorization of the loan request will enable the bank to determine the appropriate amount to
grant for the demand. 4. Sources of Payment
The means of repayment will also be considered by the banks in assessing any loan request by the
customer. This consideration is related to the cash inflows from the business, which will be used by
the beneficiary to meet the periodic repayments of the principal amount and the interest charges to
the bank.
5. Ability of the Beneficiary to Repay
This issue will be assessed in relation to the capital and assets of the business for which the loan is
being requested. This is based on the fact that the capital base of the business determines its ability
to carry out its operations efficiently.
In the case of a new project, the financial projections for a period of five years will be assessed to
determine the ability of the business to generate enough income to meet its cost of operation and
meeting the loan repayment

6. Risk Inherent in the Loan

The loan request will also be assessed in relation to the risks inherent in the facility in the event that
it is granted. These credit risks include: default in repayment; delays in repayment; diversion of the
funds; failure of the project; mis-management of the funds; and total loss of the funds

Mention and discuss the relevant factors to be considered in decision on loan request
Character: – this is a review of the management of the business, the products of the company, and
the past performance of the business for which a loan is being requested.
Ability: – this refers to the ability of the business to generate enough income from cash inflows
with which to repay the loan facility.
Margin: – this refers to the profit or reward of engaging in the lending facility which will determine
the bank’s consideration in committing funds.
Purpose: – this relates to the reason which informs the customer’s request which should not be
connected with abnormal business operations such as speculative business, illegal business
transaction, fruitless venture, self aggrandizement, failed venture, money laundering, dealing in
arms or weapons, etc.
Amount: – this refers to the value or amount of funds that is being requested by the customer,
which will be considered in relations to issues such as available funds for lending, the liquid
position of the bank, regulation of the apex bank, amount of loan already committed to loan, pace
of loan recovery, trend in volume of withdrawals, etc.
Repayment: – this refers to the possibility of the repayment schedule being appropriate to the
bank’s liquidity management plan. More so, the bank will also consider the past performance of the
business in relation of its ability to meet periodic repayments of the funds in relation to the liquidity
plan of the bank.
Insurance: – this refers to the issue of collateral security which is available to secure the loan by the
customer. This is very important to the bank because in the event of defaults or inability to repay
the loan the bank will use the collateral security for generate funds to settle the loan. The analysis
above indicates that it represents a broad-based evaluation of the loan request compared to the
earlier consideration in this unit. These
considerations are important in terms attributes which coalesce to form the basis of the lending
decision.
Among these considerations, there are five attributes that are linked to the accounts and finances of
the prospective borrowers. The remaining two considerations are character and margin, which are
related to the customer and the bank’s profit contemplation.
In the case of character, the issues are management of the business, which represents subjective
assessment, and the others in the areas of the products of the company, and the past performance of
the business, the latter which can be specifically quantified from the balance sheet data.
The banks will therefore, be interested in seeing financial information for the past five years before
lending any money to the customer. These are the balance sheet and the income statement of the
business which incorporates the past data relating to five years consecutively..

What are the characteristics of a term loan that can be granted by banks to business entities?

Available to business entities that are associated with heavy industrial undertakings;
Available to industrial organizations that deal in manufacturing, petroleum refinery, transportation;
Available to business entities that produce durable goods, chemicals, rubber, and public utilities;
Available to firms and trading organizations whose main purpose is for enhancing their working
capital;
Available to large business firms with heavy investments in plants and items of equipment;
It can be used by some small and medium businesses that cannot have access to funds
in capital market;
It can be used by large firms because such firms favour their flexibility for meeting their peculiar
needs compared to bond issue;
It is available to firms that have the ability to renegotiate their terms after being granted; and It
is granted to business entities that have the financial ability to prepay them without issue of
penalty.

What are the major uses to which the term loans are secured by business entities?

Acquisition of operational facilities particularly lands, buildings, equipment and machinery by large
industrial firms;
ii) The term loan can be used as well for enhancing working capital position of the firms in
meeting daily operational commitments;
iii) The loan can be used for financing new projects such as development and financing of
new
products, acquisition of sales outlets, establishing source of raw materials, etc; iv)
It can be used as a means of drawdown of funds for financing fleet of transport
facilities for operational logistics; and
v) The facility can be combined with revolving credit facility for periodic drawdown by business
entities for financing periodic commitments by firms.

Mention the provisions that are associated with the term loans.

. Collateral Security
The term loans, in general terms, require pledging of collateral security by the borrowers. The
collateral security can be for the long-term loans than the short-term one as a result of the
differences in risks associated with the term loans.
The reason is that the long-term loans, in general terms, are associated with much risk compared
with the short-term loans. The collateral security may also be demanded from smaller
enterprises because of the fact that their operations can be much risky as compared to large
industrial undertakings. 2. Interest Charges
The interest charges on term loans are generally higher compared to other forms of credit facilities
from the banks. In comparison to short-term loan, the interest rate on term loan is higher due to the
fact that the latter form of bank lending facility is less liquid and it involves higher risk.
Furthermore, the term loan that involves large amount of funds calls for charges which are higher
than the type that involves a small amount of funds because the cost of
packaging and administration of the facility increases with cost of insurance, administrative and
paper work, and logistics for periodic contacts with the borrowers.
There are other factors that influence that the charges that are associated with the term loans. Such
factors include: the prime rate in the economy; issue of compensating balance, financial position of
the borrower, and cash inflows prospects of the project or the business, among others.
3. Maturity
The term loan normally has duration of about 2 – 6 years or even longer periods. This depends on
purpose of the loan, the agreed term, liquidity position of the bank, status of the business or projects
for which the loan is taken, etc.
In some cases, the term loan can be repaid back before the maturity date but it can attract some
extra charges regarded as penalty particularly if it is discovered by the bank that the borrower is
using a cheaper funds to repay the loan.
4. Repayment
The repayment of term loans involves installment payments quarterly, semi-annually and annually.
The agreed terms may involve a balloon payment at the end of the maturity period in which a new
line of facility may be negotiated by the borrower.
The negotiation of a new line of loan facility at the end of the previous one is desirable particularly
by the lender for borrowers who may need a long-term credit facility. Therefore, the duration and
the whole amount that may be demanded by the borrower can be graduated and granted to him on
periodic basis.

Mention and discuss the factors that the banks consider in granting term loans

1. Appraisal of bank’s liquidity position

The appraisal of the bank’s financial position is in relation to the loan request and the trends in
deposits and their withdrawals. In essence, the bank takes into consideration issues such as
nature and trends in deposits from depositors, and type of deposits that attracting reasonable
funds. The other issues that can be considered by the banks in the appraisal of the liquidity
position include the quality of deposits from customers, liquidity and diversification of earning
assets, and the capital accounts of the bank necessary to back lending.
2. Composition of Loans
This involves the assessment of the composition of the loan portfolio of the bank so that the loans
will be concentrated in the hands of few customers. The banks will ensure that there is a balanced
loan portfolio by spreading the credit facilities to different and diverse industrial organizations.
3. Liquidity of Assets
The banks will also consider the liquid position of the earning assets that have been committed or
granted out as credit facilities to customers. The volume of lending depends on the liquid state of
the funds already committed into loans and credits.
Assuming the bulk of the funds is sunk into marketable securities with maturity of months to one
year then the banks will gladly extend more credits in term loans. On the other hand, if the bulk of
the bank’s is into long-term loans, it will not be favourably disposed to granting the term loans to
industrial undertakings and other enterprises.
The marketable securities can always be redeemed by the central bank during the peak periods of
withdrawals. This can encourage the commercial banks to grant term loans on the understanding
they can use their funds in marketable securities to meet sort- term demands from the depositors.
4. Quality of Loans
The quality of loans already committed in the hands of the customers is also important towards the
decision of the banks to grant term loans to customers. In this regards, the composition of
borrowers will be considered in relation to the number of them who are marginal borrowers and
those that are industrial organizations such as petroleum, communications, transport, vital services
generally. Assuming that the bank is saddled with the bulk of loans in the hands of the marginal
borrowers, the bank might not be able to grant term loans. This is because the marginal borrowers
are fond of slow repayment or slow in meeting their repayment obligations coupled with the fact
that they are always asking for extension for repayments.
5. Quality of Credit Staff
The banks will consider the quality of their credit staff who will be required to carry out
professional assessment of the customers requesting for term loans. The banks may need to engage
experts in various industries such as estate managers, agricultural engineers, construction engineers,
insurers, etc, for use in assessing term loans.
Some commercial banks as well as investment banks normally have these professionals in the staff
mix so that they can be used from time to time for evaluation of term loans and other specialized
credit facilities. Such mix of lending requires special skills which ordinary bankers cannot handle
because these cannot be acquired through training and experience in the banking industry.
6. Creditworthiness of Customers
The banks also consider the creditworthiness of the customers before granting the term loans. The
character of the customer is normally taken into consideration before the assessment of other issues
concerning the business of the customer requesting the loan facility.
There are factors that are normally considered in the assessment of the customer’s creditworthiness.
Such other factors include condition in the industry and the economy, contribution of the customer,
capital of the business, and capacity of the business to repay the loan which also depends on the
management of the business.
The factors that banks normally consider in lending term loan include cash inflows from the
operations of the business or the project for the facility, collateral security to pledge for the loan,
and the amount in the facility being sought by a customer.

7. Past Performance of the Business

The performance of the business for which the term loan is being sought is also important for
investigation by the bank before considering granting the facility to the customer.
The investigation of the past performance of a business involves the assessment of some financial
statements such as the income statement and the balance sheet. The income statement indicates the
income generation capacity of the business for a period of five years. This reveals the possibility of
earning incomes with which to pay for the loan facility.
The balance sheet indicates the capital position of the business, the debt profile of the business,
determines the nature of the fixed assets and the working capital status of the entity. The balance
sheet that can be used to assess the relevant should incorporate a period of five years.
In the case a new business, the financial projections of the venture are used to assess the projected
cash inflows position of the business which is reflected in the cash budgeting. There are the
projected income statement and the projected balance sheet of the new venture in the feasibility
study report which can be used for relevant assessment by the bank.

Mention the advantages and disadvantages of using working capital loans by firms.

For the advantages of using the working capital loan, considerations are as follows: The working
capital loan is a source of quick funding;
It helps a business entity to sustain their operations until it is profitable enough;
Such a loan could be used to refinance cash flow for meeting the short-term financial obligations to
workers and suppliers;
Working capital loan provides funds to a business entity it needs to keep growing until the business
can cover all operating expenses out of revenue.
The working capital loan also enables businesses to generate enough revenue from additional sales
to stay afloat.
The loan also makes a firm the access to cash which can be used to make payment for rents,
mortgage payments, utilities, marketing expenses, inventory, and remuneration for employees, etc.
For the disadvantages of using the working capital loan, considerations are as follows: The funding
is only intended for short-term solutions;
These loans will not be relevant to long-term business goals or business projects that
will need higher investments;
The firm needs to make regularly payment on the loan;
This also calls for ensuring timely payments to avoid being considered as a high- risk or a
delinquent customer.
Another disadvantage is that obtaining capital through this method can be difficult for many
businesses, particularly the small and medium enterprises.

Mention and explain the two basic types of working capital loan.

1. Line of Credit
This is any credit facility that is extended to business entities by a bank for use in enhancing their
working capital position. The line of credit from the bank comes in form of a cash credit, overdraft
facility, a demand loan, an export packing credit, term loan, or discounting facility.
The lines of credit are very flexible for business use. Nevertheless, they are only made available to
the business entities that have meaningful way of repaying them. The consideration is defined cash
inflows from the operations of the firm.
The availability of credit is a key determinant in the ability of particularly small and medium firms
to expand and grow. In order to lessen the perennial problems of meeting the demands of operations
of growing number of small and medium enterprises, working capital loans are normally made
available to them by the banks. In fact some of these loans do not need collateral securities but offer
of mere promise of repayment from the business entities in need of such loans to back up their
working capital. 2. Short term loan
The short-term loan is another form of working capital loan that is available for the use of business
entities. The short-term loans are usually seasonal loans, but their maturity does not always go
beyond a period of one year. The thriving and well established business entities are nearly
guaranteed automatic access to short term loans, which in most cases do not require collateral
securities.
Since the working capital of a company reflects its ability to meet its obligations as they fall due,
the short term loans are necessary in avoiding a run towards a position of bankruptcy. Thus, some
amount of working capital loans in form of short-term loans are needed more often to direct the
character and scope of a business operation. Working capital loans or short-term financing
constitute the funds usually required by the firms to finance working capital short-falls.

Mention and explain the factors responsible for the risky nature of agricultural loans.

1. Fluctuating Income from Agriculture

Agricultural production is fraught with fluctuations in prices of agricultural produce and by
extension, the revenue generation from the farming venture is subject to income instability.
Therefore, it becomes difficult for the farmers to generate steady cash inflows with which to meet
the periodic principal repayments and interest payments on agricultural loans.
2. Inability to Control Supply
The farmers have no control over the production and supply of agricultural produce due to the fact
that agriculture is prone to the vagaries of nature that dictates its fortunes. The production of
agricultural products is seasonal in nature and during the peak in rainy season much quantity is
produced and prices will fall. On the other hand, during the dry season the production falls and
prices of agricultural produce will rise.
In essence, the farmers have no control over production and supply of agricultural produce because
of the seasonality of production that is influenced by the dictates and upheavals of nature.
3. Effect of Weather Condition
Agricultural production is subject to the dictates of weather conditions in the moulds of rainfall and
sunshine that affect the quantity produced and supplied at any period of the year. The rainfall may
be too inadequate at times while at some time it may be remarkable and accompanied by flooding
and erosion of the fertile soil nutrients needed for agricultural production.
During the period of abundant rainfall, the level of agricultural production can be remarkable for
the farmers. This goes along with reasonable amount of revenue for the farmers. On the other hand,
inadequate rainfall spells poor quantity of agricultural production and consequently the farmers’
income will be negatively affected.

In the case of the other aspect of weather, too much sunshine can spell drought with consequence of
poor harvest of agricultural produce. In extreme cases, the drought can lead to famine in some areas
to the extent that the farmers themselves would not be able to obtain any produce to feed their
families.
In the event that there is no farm produce or limited quantity of farm produce, the farmers would
not be able to generate any income with which to meet the demands of the so-called agricultural
loans. Therefore, the banks would incur loss in their investments in loans.
4. Difficulty in Assessing Framers Creditworthiness
It is always very difficult for the banks to assess the creditworthiness of the farmers because some
important pieces of information relevant for such analysis are not just available. Granting of loans
by commercial banks is based on the assessment of the customers’ creditworthiness using relevant
information and data from past performance of their undertakings. This is not possible in the case of
the farmers who operate in precarious environment.
Farming in the less advanced countries such as Nigeria is characterized by small holdings whose
owners engage in agriculture for the purpose is mainly for subsistence operations. They would sell
only surplus quantity to the public. Therefore, the farmers do not keep records which can be used to
evaluate their creditworthiness by the banks for the purpose of granting agricultural loans to them.
5. Diversion of Agricultural Loans
Farmers in the country are fond of diverting funds from agricultural loans to meeting family
commitments which cannot in way distinguished from the expenses being incurred on farm
operations. This is because borrowed funds may be utilized for both productive and or consumption
purposes which in many cases could not be distinguished from each other.
Furthermore, farming operations in the country are mostly carried out on the basis of family
holdings. This implies that it is difficult to separate expenses on family commitments from costs of
running farming operations. The income being generated on periodic basis is being expended on
family commitments as well as the farming operations.

Mention and discuss the main types of agricultural loans available from commercial banks.

Intermediate Term Loan

This type of agricultural loan is normally granted to the farmers for the purpose of financing the
acquisition of operating assets. The intermediate term loan for the farm operations is usually
made available to the farmers for a maturity of several years. The funds from the loan are
normally used for the purchase of:
farm equipment;
farm machinery; 119

livestock; vehicles;
and durable
implements.
All these farm requirements are normally meant for enhancing the production of agricultural
products.
Part of the money from the term loan can also be utilized by the beneficiaries in:
acquiring farmland; construction of farm house; fish pond; piggery; and pen
house for goats; etc.
The commercial banks normally ensure that the farmers are encouraged to utilize the funds from the
term loan to enhance the mechanization of the farm operations.
Therefore, the funds can be utilized by some farmers for the:
purchase of tractors; and acquisition of modern agricultural
implements.
These operational assets are meant to encourage the farmers towards the mechanization and
improvement of their agricultural production. The commercial banks would be interested in such
assets being purchased by the beneficiaries so that they are easily secured as collateral for the loan.
In terms of collateral security, a large percentage of the intermediate loans for agricultural
production are secured. Therefore, it is only a small percentage of such loans that is unsecured by
the farmers when they are granted by the banks. The reason is the risky nature of farm operations
and the fact that the loan is repayable over several years.
The extended length of maturities of this type of agricultural loan increases the riskiness in the loan.
This informs the need for collateral security for this form of loan for agricultural production. The
items that are purchased with the funds from the loan are normally mortgaged or secured by the
banks as the collateral security for such loans.
The real estate for which the loan can be utilized, for the farm operations, can always be accepted
by the commercial banks as collateral securities. This is in the event that

the funds from the intermediate term loan are utilized by the beneficiaries to improve farm land and
buildings.
The maturity period of intermediate term loan for the farm operations varies in accordance with the
purpose of the facility. In the case of the loan being granted for the purpose of livestock the
maturity would be for a relatively short term. The maturity becomes a relatively long term if the
purpose of the loan is for the acquisition of vehicles and durable farm implements.
Current Expense Loan
This type of loan is normally granted by the commercial banks to farmers for the financing of
frequent seasonal expenses for the production of crops and livestock.
Such recurrent expenses in farm operations for which the loan is granted include: seedlings;
hybrid seeds; fertilizers; fuels; and hired labour.
Since this type of agricultural loan is for current farm operations in terms of utilization for current
farm expenses, it is normally granted by the commercial banks for a short- term basis. The loan
facility is repayable within a period of twelve months.
The loan is usually regarded as current operating facility for expenses such as feeder;
livestock; and other recurrent expenditures.
These expenditures are normally incurred in the process of farm operations by the beneficiaries.
Some farmers have the penchant for spending part of the funds from the current expense loan for
the upkeep of the family. The loan of this nature that is usually secured is of relative small
percentage.
The commercial banks normally ensure a security interest, for the purpose of collateral security, in
articles such as:

harvested crops; machinery; equipment; and livestock.

In the case of feeder livestock loans the collateral security will be taken on the livestock on which
the funds are utilized in feeding and related expenses. The banks will take lien on real estate and
support in the case of farmers who have a limited networth.
Since the current expenses loan are meant for use in meeting and financing current farm operations,
they are usually granted for a short-term maturity basis. The loan is meant for financing of a
farmer’s needs for preparing (feeding and growing) the livestock for the market if it is granted for
livestock.
In most cases, the current expenses loans are normally made available by commercial banks on
demand from the farmers. This is informed by the fact that farming income is seasonal and
therefore, it is does not come on regular basis.
Nevertheless, farm operations which are normally associated steady income round the year include:
poultry; and dairy production.
By implication, such farm operations are frequently considered for current expenses loans on
demand basis by the commercial banks.
The current expenses loans are associated with repayment on single lump-sum basis. It implies that
the total amount of funds for repayment by beneficiaries is usually paid back as a lump sum to the
bank. The repayment is therefore, not made by the beneficiary on installment basis. This is to
forestall default since the income of most farmers is relatively inconsistent and seasonal since it
comes but once in a particular period of the year.

Mention the benefits of installment loans

The benefits of installment loans include the following considerations inherent in the facility.
It gives a borrower the freedom to make payments for an extended period of time.
It allows the customer the chance to make a purchase that he may not otherwise be able to make
upfront, e.g., a car or house.
Each payment is due at the same time each month and for the same amount. Installment loans are
useful for those who do not have a lot of money in savings. It is useful for consumers for avoid
putting high-ticket items on a credit card. Installment loans offer the ease and convenience of
structured, monthly payments.
Short-term installment loans only require a verifiable income.
Installment loans can even be obtained over the Internet in some states of the US,
depending on state regulations.

What are the factors that influence the interest charges on installment loans?

The borrower's credit history with the bank. Means of repayment of the amount granted.
Length of time the customer has account with the bank. Performance of the customer’s account in
he past.
The length of the repayment period.
The total amount of the loan being granted to the customer. The contribution of the customer or
down payment.
The state or performance of the economy.
In some instances, short-term loan interest rates are much higher, especially those for some days,
since they do not require a collateral security. This is particularly applicable to consumers who use
such loans to acquire assets for household use.

Differentiate between cash installment loans and income-based installment loans.

Cash Installment Loans

This is the type of installment loan that enables the customer of the bank to have access to cash
advance or quick access to money during an emergency. The funds from an installment loan can
easily be available and can be used to meet personal commitment or any other purpose.
In countries such as the US, the cash installment loans do not involve credit checks or security, and
therefore, most people are easily qualified. The implication is that these loans have high interest
charges and they're generally due for repayment in a period of fourteen days. In the event of failure
to pay the loan by the agreed date will attract additional charges such as late fees and additional
interest.
Cash installment loans, in most cases, are short-term loans, and they are designed to provide
borrowers with immediate funds to meet an unexpected expense. The borrowers can apply for a
cash advance by merely approaching the branch managers of the banks where they have their
accounts.
The cash installment loans can be granted for upwards of one month, two months and three months.
The charges involved in cash installment loans vary from one bank to another. Cash installment
loans, in most cases, do not require collateral security or guarantors but they are based on personal
integrity. The salary account of a worker is enough to serve as security for the cash installment
loans for the consumers.

Income-Based Installment Loans

This is the type of installment loan that is based on the income of the consumers. It implies that it is
only the salary earners that qualified and considered for the income- based installment loans. The
salary earners are allowed to have access to these loans with the understanding that they are paid
back over a pre-determined period of time. The terms of these loans, e.g., amount, interest charges
and period of repayment, are normally dictated by the commercial banks.
The income-based installment loans are often based on the personal credit history and personal
monthly income of the borrowers. The bank may require the borrower to show evidence that he is
still gainfully employed and that the salary will continue to come to the bank. This involves
obtaining a letter from the employer to that effect. Hence it is based on salary accounts of the
borrowers.
In other countries such as the US, the income-based installment loan requires the borrower to
provide proof of his or her income in the form of pay slips or stubs and an adequate credit history.
Such request is normally assessed on the basis of rating; a lower score qualifies for small amount of
loan while a higher score attracts higher approval amount of loan.
The income-based installment loans come in forms of; signature loans (for those with poor credit),
and typical installment loan contracts from the bank. The duration for the repayment of the loan is
in direct correlation to the amount involved and the borrower’s personal credit history.
The income-based installment loans are associated with high interest rates. Such interest rates are
adjustable to ebb and flow with the ruling market rates. The commercial banks normally consider
these loans to be of higher risk due to the fact that installment loans are normally secured with no
collateral. Therefore, they will have a higher rate of interest.

Mention the reasons responsible for loan monitoring and supervision.

Ensure regular repayment of loans and advances; Generate enough funds to meet depositors’
demands; Prevent loan defaults from the customers;
Ensure liquidity for the banks’ operations;
Generate reasonable amount of returns on operations; Protect depositors’ interest; Guide
against financial distress in operations;
Ensure regularity of cash inflows from investment in loans; Minimize risks inherent in loans and
advances;
Ensure safety of the funds committed into loans

Mention and discuss the various modalities that can used for loan monitoring and supervision.

Supervision & Control

Supervision and control of loans and advances is very critical to lending management in the
operations of the commercial banks. The repayment of loans and advances should be supervised
and controlled in such a manner that the interest of both the bank and the depositors whose funds
are committed in these investments is protected.
The effective supervision of loans and advances requires that the banks institute appropriate to
ensure the following operational actions:
Assigning responsibilities for supervision to appropriate staff;
Determining time line for periodic contacts and visits with loan beneficiaries
Provision of logistics for facilitating supervision by the staff; Determining modalities for contacts
with loan beneficiaries; Constituting supervision team from experience staff; Modalities of
releasing funds on loans and advances;
Process and actions for dealing with problem loan accounts;
Periodicity of supervision reports from relevant staff; and Determining
necessary actions for handling logistic bottlenecks.

Collection Procedure
It is always necessary for the banks to institute relevant measures for the collection of funds
involved in loans and advances which are granted to the customers. The
collection procedure is normally determined at the stage of granting the loans and credits to
customers of the bank.
The collection procedure involves the use of the following administrative measures.
1. Schedule of Repayment
In most cases the repayment for any loan by the customer is normally effected with a prepared
schedule showing the frequency and amount of principal and interest involved. The schedule is
prepared to show the number of repayment installments, the magnitude of principal repayment, and
the interest charges to be met by the customer on periodic basis.
2. Reminders and Circulars
Another important responsibility of the credit officers of the bank is the preparation of the periodic
reminders and circular letters which are normally sent out to the loan beneficiaries. The reminders
and circular letters are normally prepared to incorporate the total loan commitment of the customer,
the repayment that has been made, the outstanding payments and their due dates.
3. Personal Visits
Personal visits are very imperative for effective supervision of the repayment of loans and advances
by the banks. The visits may be scheduled or on the basis of surprise contacts by the relevant bank
officers.
The personal visits by bank officers to loan beneficiaries are normally facilitated by the evaluation
visit which is made during the assessment of the loan request from the customers. In the process of
loan evaluation, the premises of the customers’ business would be visited, and this eliminates
problem of difficulty in accessing the loan beneficiaries.
The personal contacts by the bank officers to the customers are on periodic basis and therefore, not
reserved for solving problem loan accounts when the beneficiaries might not be forthcoming in
terms of meeting regular loan repayment. It implies that the personal visit to customers who are
holding the funds of the bank is a regular action, which can be used to forestall repayment defaults.
4. Mode of Collection of Funds
The mode of collection of funds from the loan beneficiaries is normally determined and made
known to them at the instance of granting the facilities. The mode of collection can either be cash
payment or payment by cheques by the loan beneficiaries. The collection of repayments in cash by
the bank officials is not normally encouraged
The non-repayment of loans and advances by the customers in cash to bank officials is to prevent
frauds and fraudulent practices by the staff when handling cash outside the premises of the bank.
Therefore, the customers are encouraged to make repayments in cheques directly to the bank and
not to the bank officials unless they are crossed cheques.

Loan Accounting & Record

Another important consideration in loan supervision is keeping appropriate accounting records on
the release of funds to the loan beneficiaries and the repayments of the funds to the bank. This is
important for the bank because such accounting record will be used in monitoring the performance
of the repayment by the customers.
The bank may have to create separate loan accounts for large of amount of loans while the
customers’ existing accounts would be used for the records of release of funds as well as the
repayments on the facilities.
Furthermore, the customers would be required to be supplying interim financial statements to the
bank for evaluating the performance of the business or project for which the bank’s funds have
been committed. The financial statements are valuable in assessing the income position of the loan
beneficiaries’ business operations or project performance in terms of their prudent management.
One of the financial statements required from the customers who are the beneficiaries of loans and
credits is the income statement, which reveals the returns from operations and how profitable such
operations is to the customers’ business ventures.
The other important financial statement is the balance sheet which reveals the statement of affairs of
the customers’ business operations. The balance also reveals outstanding financial commitments to
outsiders, position of the capital, magnitude of the assets, which are to be used for running the
business and generating revenue from operations.

Loan Repayment Monitoring

The loan repayment agreement is always monitored continuously by the bank officials. This is to
ensure that the terms of the loan are being followed and that all required payments of principal and
interest are being made as promised.
The loan officers normally visit the customer's business periodically to check on the firm's progress
and to see what professional services the customer may need. The loan officer or other staff
member places information about a new loan customer in a computer file known as a bank
customer profile.
The customer file shows what bank services the customer is currently using and contains other
information required by bank management to monitor a customer's progress and financial-service
needs.

Repayment Evaluation
In most cases the repayment schedule for any loan by the customer is normally used to assess the
progress of repayment based prepared schedule. The evaluation is based on the frequency and
amount of principal and interest being repaid by the customers.
It is normally easier for the bank officials to use the repayment schedule for evaluating customers’
performance since it is prepared to show the number of repayment installments, the magnitude of
principal repayment, and the interest charges to be met by the customer on periodic basis. Hence,
the details of the repayment schedule would be compared with the records of the actual repayment
of the funds involved in the loan in order to assess any discrepancies which may require actions on
the part of the bank.
Another important aid to evaluation of loan repayment is the appropriate accounting records
maintained by the bank on the release of funds to the loan beneficiaries and the repayments of the
funds to the bank. This is important for the bank because such accounting record will be used in
evaluating the performance of the loan repayment by the customers.
The evaluation of repayment of loans process also affects the assessment of the entries in the
separate loan accounts that have been created for large of amount of loans. The customers’ existing
accounts used for accounting records of release of funds and the repayments on the facilities would
also be evaluated to determine the performance.

Mention and discuss the various forms of property that can be pledged as collateral security.
Real Estate
A real property is acceptable in the consideration for a collateral security on a loan facility. Once
the property is accepted by the bank, the bank can put public notice of a mortgage against a real
estate. The bank then takes action to file with the relevant authority the pledge of the property for a
loan facility from the beneficiary.
Tin some instances, the bank may have to take out title insurance and equally insists that the
borrower purchases insurance policy to cover any future damage from environmental hazards and
perils. The bank receives a first claim on any insurance settlement that is made on the policy.
The bank will initiate action to determine the real value of the property once it accepts to advance
some funds on loan facility to a borrower. The basic approaches to the valuation of real estate
include the
Cost approach:- this involves considering the reproduction cost of the building and improvements,
deducts estimated depreciation, and adds the value of the land.
Market Data or direct sales comparison approach:- this involves estimating the value of the subject
property based on the comparable properties’ current selling prices.
The income approach:- this involves the use of discounted value of the future net operating income
streams from the property.
The direct capitalization approach:- this involves the calculation of the value by dividing an
estimate of its average annual income by a factor called capitalization rate.
2. Personal Property:
The practice is for the banks to accept and take a security interest in items of property such as motor
vehicles, machinery, equipment, furniture, securities, and other forms of personal property owned
by a borrower.

Mention and discuss the various forms of valuable that can be pledged as collateral security.

1. Personal Guarantees
The banks may also accept the pledge of the stock, deposits, or other personal assets held by the
major stockholders or owners of a company. The borrower will be required to provide agreement
on such pledge and acceptance between the representative of the borrower and the bank as may be
required for the collateral to secure a business loan for the entity.
The practice is that guarantees are often requested for by the banks in the cases of lending funds to
smaller businesses. This is also required from corporate entities that have fallen on difficult times.
The simple reason is that the arrangement will give the owners the prod or considered reason to
strive harder so that their firm will prosper and repay their loan.
2. Accounts Receivable
Another practice is that the banks can accept and take a security interest in the form of a stated
percentage of the face value of accounts receivable, which involves value of sales on credit, as
shown on a business borrower's balance sheet.
Whenever the borrower's credit customers send in cash to settle their outstanding debts, such funds
or cash payments are applied for the settlement of the outstanding balance of the borrower's loan.
This may to take the form of mortgaging the receipts of the accounts receivable so that the payment
would be made to the account opened for such money in the bank’s domain.
The banks often take the necessary measures to evaluate accounts receivable pledged for the loan
facility by the borrower. The main types of method of evaluation of

accounts receivable are accounting receivable aging and accounting receivable turnover.
3. Factoring
The banks can also purchase the borrowers’ accounts receivable. The arrangement is that the
agreement will be based upon some percentage of the book value of such debtors. The factoring
interest is the difference between the book value and the discounted value of the accounts
receivable.
The borrower's customers who are the debtors would be required to make payments direct to the
purchasing bank, which happens to the lender of funds to the firm whose debts the bank has
acquired. The agreement will incorporate the consideration that the borrower promises to set aside
some funds with which to cover some or all of the losses that the bank may suffer from any
unpaid receivables. 4. Inventory
In this consideration, a bank will lend only a percentage of the estimated market value of the
borrower's inventory, which serves as the collateral security for the loan facility. The bank could
have a floating lien in the sense that the inventory pledged may be controlled completely by the
borrower.
In the case of the floor planning, the lender takes temporary ownership of any goods placed in
inventory and the borrower sends payments or sales contracts to the lender as the goods are sold.
This arrangement ensures that the bank as the lender is rest assured that he has a proper lien on the
inventory.
The practice requires that the bank evaluate the inventory. The basic ways to evaluate the inventory
include resale of inventory, inventory turnover, and inventory converted to accounts receivable.

Differentiate between small company whole turnover policy and single risk policy.

SINGLE RISK OR SPECIFIC ACCOUNT POLICY

There are occasions when an exceptional business relationship is developed with a single or small
number of customers such as the case of loan facilities to small and medium enterprises. The case
of insolvency in such circumstances would have very serious repercussions on the enterprises. It is
possible to obtain credit insurance for such form of risk.
The insurance cover is up to ninety percent of the approved level while the premium is charged
either as a percentage of the total amount of such credits in lending or as a fixed sum in advance.
The customer base of microfinance banks only consists of one or two large exposures to risk, totally
out of proportion to the rest.
The issue of the whole turnover insurance would be possible. Nevertheless, this could be more
expensive because of the credit lending to smaller customers. In this circumstance, specific account
cover is designed to convert a bad risk into a good one.

SMALL COMPANY WHOLE TURNOVER POLICY

This is usually packaged for small banks. Small banks such as microfinance banks regarded, for
insurance purposes, as having a small turnover can also benefit from credit insurance. They may not
have credit management systems, or the manpower to handle the administration of a standard
policy. Any bad loan can significantly influence
their cash inflows, and therefore, they may still be tottering in terms of managing their credit risks
as far as their lending is concerned.
An amount regarded as off-the-shelf policy is available for these small banks. The policy is
associated with a fixed discretionary limit and first loss figure. It also attracts regularly declarations
which are simplified and minimized and there is a standard premium charge for the policy.

Mention and explain the various credit policies that can be taken by banks to protect the
funds being committed to loans and advances.

i) The discretionary limit

This implies that not all customers covered under the policy will have an approved limit, especially
if there are many insured customers covered in the policy. On the basis of guidelines laid down
incorporated in the policy document, the insurer will have the discretion to set his own limits up to
a certain amount. This amount also depends on the size of the business and the expertise of the
insured.
ii) Thresholds
In this consideration, an insured such as the bank can choose not to have their smaller credits
covered in an insurance policy. This has the effect of reducing the cost and administration of the
policy. Therefore, a threshold is indicative of the amount below which any loss or default will not
be covered.
iii) Datum Lines
This involves an option available to the insured which is to limit cover to customers whose credits
currently exceed, or might have exceeded in the past, a stated amount. Hence, the policy called the
datum line is a technique for reducing the number of customers covered by the insurance company.
It also has the effect of reducing the cost involved.
iv) Goods Sold or Losses Arising
In the case of banks, inventory pledged by a loan beneficiary can be sold. This is applicable to
goods involved in foreign trade. Therefore, this policy can be used by the banks. Goods ordered
by an importer may still be in a state of preparation. More so, they may be non-standard or not
especially designed for the customer. Under these circumstances, it is possible to insure for the
full loss arising, including work-in-progress, though at extra cost. v) Waiting Periods
There is the waiting period as often incorporated in the policy by the insurer as earlier specified
above. This is the period (ninety days) after which a claim for protracted default can be made. In
essence, there exists a waiting period of up to six months before a claim is paid.
This is to give time to banks to take necessary legal to recover the debts involved or to apply for
winding-up action for sale of assets towards the collection of the debt involved. In the case of
insolvency, the waiting period is thirty days from the date of confirmation of debt. The duty of
the insured such as bank is to obtain confirmation of the amount outstanding from the receiver,
liquidator or administrator. vi) Credit Control Procedures
Such credit control policies are incorporated in the policy, and the insured is expected to observe
them always. The fact that they are specified by the insured in the first instance, there be strict
adherence. It implies that the insurer should be consulted if on-standing action is taken with an
approved customer.
vii) First Loss
This is another cost reduction option available to the insured. The insured has to accept the
reduction a small sum in his own account. It can usually involve a small amount in the region of a
few hundreds of naira, besides the normal ten percent retention by the insurance company.

What are forms of risks that can make banks to lose their funds on export credit?

(a) Buyer risks

These risks are associated with the issues such as: i.
Delays in payment ii. Insolvency
iii. Default
iv. Exchange depreciation v. Loss of Goods in transit vi. Rejection of Goods
(b) Transfer risks
These risks are associated with the issues such as:
i. Delays in transferring money ii Cancellation of offer iii.
Devaluation of currency
iv. Fraudulent practices in payment v. Exchange restriction
(c) Political risks
These risks are associated with the issues such as: i.
Government policy
ii. Change in government regulations iii. Closure of ports
iv. Political instability
V. Civil war vii.
Exchange Control
viii. Failure of government buyer to fulfill terms of contract

Explain comprehensive short term policy in relation to variation of claims in export credit

Comprehensive Short Term Policy

This insurance policy is normally taken to cover sales to trade customers and public buyers with
payment terms within a period of not longer than six months. The allied companies may also be
covered for political risk such as transfer difficulties. Nevertheless, this type of policy does not
cover buyer risk.
There is an issue of a discretionary limit is set being determined above which all customers will be
given an approved limit by the insurance companies. The major credit insurance companies have
access to large reasonable flow of overseas information to rely or call upon for assessment of the
policy.
Such amount of information that is generated from overseas countries is often employed for the
negotiation of different limit in the policy. The information that has been generated can also able
the parties to agree on a new or revised limit within a short time.
An important condition is the inclusion in the approval of certain payment terms that are acceptable
to the insurance company that is prepared to issue insurance policy. Hence the exporter is to ensure
that the importer fulfill the condition, which the policy holder must make sure the trading
transaction falls within.
There are waiting periods before claims which can be varied in accordance with the following
circumstances. For each of the circumstances below, certain actions are identified.

(a) For Risk of Insolvency

In this case, there must be immediate proof of the buyer’s solvency acceptable to the insurer.
(b) For Issue of Default
In order to avoid a possible default, a period of six months after due date will be acceptable for
payment.
(c) For Case of Rejection of Goods
For the refusal to accept goods by the buyer a period of one month after resale is normally
stipulated, that is in the event that the original buyer fails to take up the order.
(d) For Cases of Delay in Delivery
The acceptable period of time is a few months. And for other causes of delay in payment, there is a
period of four months after due date that will be acceptable to the insurer.

Mention the responsibilities of a loan committee of the commercial bank?

To review major new loans; Review major loan renewals; Ascertain the reasons for renewal;
Assess delinquent loans & determine the cause of delinquency;
Ensure compliance with established lending policy; Ensure
full documentation of loans before disbursement; and
Ensure consistency in the treatment of loan customers.

Mention the necessary considerations normally taken into cognizance towards final decision
on loan request.

Sanctioning limits of various types of loans; Delegation of Authority;

Uniform Presentation Format & Standards; Descriptions of the client;
Assessment of management;
Pricing Policy;
Purpose of the loan request;
Repayment schedule & source of repayment;
Secondary sources of repayment including collateral values & guarantors; History of past
borrowing with the bank; Required monitoring steps;
Timing of submissions of financial statement; The loan Decision; and Loan
officer’s comments including consistency with policy.

What are the necessary administrative measures for managing problem credit facilities
Committee’s actions for the recovery of difficult loans; Mutual discussion with the beneficiary of
the loan; Planned contact for assessment of beneficiary’s premises;
Threat of legal action against the beneficiaries Offer of restructuring of beneficiaries’ operations;
Threat of sale of securities for the loan; and
Representation to beneficiaries on plan to take over their business operations.

Mention and explain the factors influencing credit administration by commercial banks

1. Liquidity of the Bank

One of the factors influencing credit administration is the bank liquid position in terms of meeting
the regular demands of the depositors. This is the uppermost objective in bank lending because
banks only make use of depositors’ money for business. And since such depositors are entitled to
their funds as often as they so desire, banks lend money for a short time in most cases. This is
informed by the fact that the banks only lend money which is generated mainly from the deposits
which can be withdrawn at any time by the depositors. Basically, therefore, banks advance loans
from the deposits on the consideration that their collection will be effected on periodic basis.
Furthermore, the major consideration in government securities is that the investment in treasury
bills and certificate is secured and they can be easily marketable and convertible into cash at a
short notice.
2. Prompt Repayment of Loans
Another issue in credit administration is to ensure that the funds committed into loans and advances
are promptly repaid by the beneficiaries. Banks always ensure that the depositors’ money is safe in
the sense that the borrower should be able to repay the principal amount and the interest charges
involved in loans.
The administration of credit facilities by the banks is managed in such a manner that the funds are
repaid at agreed regular intervals without defaults. The repayment of loans by the beneficiaries
depends on their capacity to generate enough funds from their projects, besides the fact that their
character which are normally evaluated before loan approval.
In essence, the banks lend funds to the customers based on the financial standing of their business
in terms of regularity of cash inflows with which to repay the loans

Balanced Loan Portfolio

Another factor in credit administration is the need to ensure that there is a balanced portfolio in
terms of the composition of loans and credits being granted to customers.
This means that in the process of granting loans and credits to customers, the banks consider the
composition of the loan portfolio so as to maintain balanced diversity of the assets. This is view of
the fact that the spread goes a long way to guarantee the safety of the banks funds. This is important
for the banks’ profitable operations and liquidity so as to protect the interest of the depositors as
well as that of the shareholders.
It implies that the loans and credits being granted to customers are not concentrated in a particular
sector but in diverse sectors of the economy. This is in conformity with the policy of the apex bank
in terms of extending loans to various productive industries and businesses for balanced growth and
development of the economy.
The spread of the loan portfolio to various productive sectors of the economy is also imperative
towards minimizing risks that are always associated with lending of funds. In this regards,
commercial banks take appropriate measures to spread the risks of investment in loan and advances
portfolio by considering various trades and industries.
4. Constant Stream of Cash Inflows
Another issue in credit administration is the need to guarantee constant stream of cash inflows from
loans and advances for the banks’ liquidity. Therefore, commercial banks will only grant loans and
advances to customers whose business ventures have the potential of earning enough funds with
which to repay the principal amounts and the interest charges.
In order to ensure constant inflows of funds from loans and advances, the banks normally put in
place some administrative measures towards assessing that such credits are the types that would
generate stable incomes with which to repay the funds.
For effective management of lending and credits, customers’ loan applications are normally
scrutinized by appropriate loan officers and committees in charge of credit facilities so as to choose
those ventures that are capable of generating constant income with which to service the loan and
make repayment on regular basis.
It is the responsibility of the credit officers and the committee to also evaluate new projects using
their technical feasibility and economic viability reports to determine the nature of cash inflows in
terms of their nature of earnings. Such assessment will be used for the selection of the projects that
can generate enough funds for repaying loans and credit facilities.
In the case of existing business, the usual practice is for the bank to request for financial reports of
the business which incorporate relevant data for five years. This will be used in evaluating the
regularity of generation of earnings. And the assessment is used to determine the stability of income
from the business for the repayment of loan facility.
5. Adequate Returns from Credit Facilities
The other issue in credit administration is the need to generate adequate earnings from credit
facilities, which are very important to the operations of commercial banks. Loans and advances are
usually granted to customers with the intention of earning some income for the banks. The income
from lending facilities comes mainly from the interest charges being made from loans advances
being granted to customers by the banks.
The rate of interest being charged on loans and advances by the banks is normally determined in
consideration to the prevailing interest rate and the ruling bank rate sanctioned by the apex bank in
the economy. Such bank rate is called the monetary policy rate in the country, as determined by
Central Bank of Nigeria.
The interest rate being charged on loans by the commercial banks is normally determined in relation
to the bank rate being charged by the apex bank, the former being higher than the later. In addition,
the banks incorporate some other charges as may be determined by the lending officers or the credit
committee.

6. Effective Supervision of Credit

There is also an issue in loan and credit administration that involves the need to ensure effective
supervision of lending by the banks. In order to ensure that lending operations are proper
supervised, the banks normally set administrative policies on loan supervision. In this regards,
administrative policies are established on supervision of credit facilities, their recovery drives, and
personal visits by bank officials to the loan beneficiaries.
The relevant supervision policies are normally established in relation to the past strategies and those
methods being used by the other banks in the industry. In order to ensure effective loan supervision,
these policies are used: supervisory teams, reports and evaluation, time line for periodic reviews of
loan recoveries, loan recovery visits, procedures for compliance with banking regulations,
appropriate pricing of loans and credits, and loan recovery methods.
7. Efficient Management of Credit Risk
Another major issue in loan and credit administration is the need to ensure efficient management of
risks associated with loans and advances. In this regard, administrative measures are established by
the banks for management of the credit risk in respect of grave problems which can arise from loan
recovery by the bank.
The banks do formulate administrative measures for the management of credit risks by assigning
responsibilities for; branch managers in preventing credit risks; senior officers in credit risk
management; loan officers in recommending only loans with minimal risks; credit committee
for assessing and handling credit risks; effective supervision to minimize defaults in loan
repayment; managing accounts of loan beneficiaries; constant visits to loan beneficiaries; and
actions necessary in managing difficult loan beneficiaries.

8. Effective Management of Difficult Facility

There is also an important issue in loan and credit administration which borders on the need to
ensure effective management of difficult loan beneficiary. Administrative policies are normally
formulated for managing difficult loan beneficiaries.
Banks formulate administrative policies and assign them to relevant bank officials for managing
problem loans. These policies are used to specify the necessary actions to be taken by relevant bank
officials to handle loan beneficiaries that are proving difficult and problematic.
Examples of such administrative measures for managing difficult beneficiaries of loan facilities
include the following:
Committee’s actions for the recovery of difficult loans; Mutual discussion with the beneficiary of
the loan; Planned contact for assessment of beneficiary’s premises;
Threat of legal action against the beneficiaries Offer of restructuring of beneficiaries’ operations;
Threat of sale of securities for the loan; and
Representation to beneficiaries on plan to take over their business operations.

Mention and explain the considerations for initial analysis of loan request

1. Purpose of the Loan

The bank will be interested in determining the purpose of the loan so that the funds from the loan
would not be used for illegal business activities or unproductive project. Therefore, the bank
would assess that the reason for the loan is not related to; speculative business; illegal business
transaction; fruitless venture; self aggrandizement;
failed venture; money
laundering; dealing in arms
or weapons; political
agendas, etc
Once the loan request is not connected to any of the above subject or business, the request will be
qualified for consideration by the bank.
2. Amount of the Loan
It is also the practice for the commercial banks to take into consideration the amount funds that a
customer is prospecting for. The amount of funds that is incorporated in a customer’s loan
request will be assessed by a commercial bank in relation to: available funds for lending; the
liquid position of the bank; regulation of the apex bank;
amount of loan already committed to the industry;
pace of loan recovery; trend in volume of
withdrawals; pattern of deposits; and quality of
deposit accounts.

3. Reason for the Loan

The banks will also be interested in determining the main reason which informs the customer’s
request for loan. The reason for the loan will enable the bank to classify the request in relation to
broad-based categorization as shown below.
Real estate loans:- short-term loans for construction and land development and longer-term loans
for the purchase of farmland, homes, apartments, commercial structures, and foreign properties.
Financial institution loans:- loans to other banks, insurance companies, finance companies, and
other financial institutions.
Agricultural loans:- loans to finance farm and ranch operations, mainly to assist in planting and
harvesting crops and to support the feeding and care of livestock. Commercial and industrial loans:
to businesses to cover expenditures on inventories, paying taxes, and meeting payrolls.
Loans to individuals:- credit to finance the purchase of automobiles, appliances, and other
consumer goods, equity lines for home improvements, and other personal expenses Lease
financing:- to corporate firms on equipment or vehicles.
The categorization of the loan request will enable the bank to determine the appropriate amount to
grant for the demand. 4. Sources of Payment
The means of repayment will also be considered by the banks in assessing any loan request by the
customer. This consideration is related to the cash inflows from the business, which will be used by
the beneficiary to meet the periodic repayments of the principal amount and the interest charges to
the bank.
5. Ability of the Beneficiary to Repay
This issue will be assessed in relation to the capital and assets of the business for which the loan is
being requested. This is based on the fact that the capital base of the business determines its ability
to carry out its operations efficiently.
In the case of a new project, the financial projections for a period of five years will be assessed to
determine the ability of the business to generate enough income to meet its cost of operation and
meeting the loan repayment.

Risk Inherent in the Loan

The loan request will also be assessed in relation to the risks inherent in the facility in the event that
it is granted. These credit risks include: default in repayment; delays in repayment; diversion of the
funds; failure of the project; mismanagement of the funds; and total loss of the funds.
Once most of these risks are perceived to the inherent in the loan request, the bank officials may not
advance further on the analysis of the request. Nevertheless, if the bank is satisfied with above
elements of assessment, it will proceed to credit analysis, which is the next area of discussion
below.

Identify and discuss the relevant technique for assessing the creditworthiness of customers
requesting for credit facilities.

The use of the data in the income statement and the balance sheet is not considered weighty enough
to assess the creditworthiness of the customer. Therefore, the commercial banks normally make use
of an assessment technique called CAMPARI, an acronym from other relevant considerations in
loan assessment.
Such considerations for assessing the creditworthiness of customers seeking for loan facilities are as
follows.
Character: – this is a review of the management of the business, the products of the company, and
the past performance of the business for which a loan is being requested.
Ability: – this refers to the ability of the business to generate enough income from cash inflows
with which to repay the loan facility.
Margin: – this refers to the profit or reward of engaging in the lending facility which will determine
the bank’s consideration in committing funds.
Purpose: – this relates to the reason which informs the customer’s request which should not be
connected with abnormal business operations such as speculative business, illegal business
transaction, fruitless venture, self aggrandizement, failed venture, money laundering, dealing in
arms or weapons, etc.
Amount: – this refers to the value or amount of funds that is being requested by the customer,
which will be considered in relations to issues such as available funds for lending, the liquid
position of the bank, regulation of the apex bank, amount of loan already committed to loan, pace
of loan recovery, trend in volume of withdrawals, etc.
Repayment: – this refers to the possibility of the repayment schedule being appropriate to the
bank’s liquidity management plan. More so, the bank will also consider the past performance of the
business in relation of its ability to meet periodic repayments of the funds in relation to the liquidity
plan of the bank.
Insurance: – this refers to the issue of collateral security which is available to secure the loan by the
customer. This is very important to the bank because in the event of defaults or inability to repay
the loan the bank will use the collateral security for generate funds to settle the loan. The analysis
above indicates that it represents a broad-based evaluation of the loan request compared to the
earlier consideration in this unit. These considerations are important in terms attributes which
coalesce to form the basis of the lending decision.
Among these considerations, there are five attributes that are linked to the accounts and finances of
the prospective borrowers. The remaining two considerations are character and margin, which are
related to the customer and the bank’s profit contemplation.
In the case of character, the issues are management of the business, which represents subjective
assessment, and the others in the areas of the products of the company, and the past performance of
the business, the latter which can be specifically quantified from the balance sheet data.
Mention the essential elements of a workout plan that a bank normally adopts

i) updated and comprehensive financial information on the borrower, the project for the funds, and
any guarantor;
ii) current valuations of the collateral supporting the loan and the workout plan;
iii) analysis and determination of appropriate loan structure (e.g., term and amortization
schedule), curtailment, covenants, or re-margining requirements; iv) appropriate legal
documentation for any changes to loan terms;
v) an analysis of the borrower’s debt service that reflects a realistic projection of the
borrower’s and guarantor’s expenses;
vi) the ability to monitor the ongoing performance of the borrower and guarantor under the
terms of the workout;
vii) an internal loan grading system that accurately and consistently reflects the risk in the
workout arrangement; and viii) it covers estimated credit losses in the restructured loan.

Mention and explain the various options available for loan workout by the banks.

1. Loan Restructuring
A restructuring or renewal of loan is normally designed to improve the borrower’s prospects for
repayment of principal and interest and be consistent with sound banking, supervisory, and
accounting practices.
A restructuring of loan is, in most cases, made for borrowers who have the ability to repay their
debts under reasonable modified terms.
The option is normally granted by the bank on the basis of the likelihood that the credit will be
repaid in full under the modified terms in accordance with a reasonable repayment schedule.
2. Forbearance Plan
This is a forbearance plan that occurs when the bank agrees to suspend all or part of a monthly
payment for a specified time period. The repayment automatically resumes immediately after the
lull period.
3. Repayment Plan
The repayment plan is the plan that is designed to take care of accumulated payments. Therefore,
the borrower is under obligation to be making payment more than one full payment per month until
the account is brought to current position.
4. Loan Modification
The loan modification arises when the original terms of the promissory note are changed. The loan
modification may be arranged to include an adjustment of the interest rate, a capitalization of the
past due amount, and some combination of all of these.
5. Sale of Property
This implies that the property may be sold prior to foreclosure sale and the proceeds used to pay off
the delinquent loan. In some cases, the sale price or the amount realized may not be enough to pay
off all of the debt. If the sale is approved and carried out it becomes a “Short Sale”. This implies
that a short sale arises when the net proceeds from the sale of the property are less than the payoff
of the required amount of the mortgage.
6. Deed-in-Lieu of Foreclosure
In some circumstances the bank may allow the borrower to transfer the property to the lender
without going through the foreclosure process. This is usually regarded as a “last resort” option, and
this may follow other options such as an attempt to sell the property.
7. Loan Extension
In a maturing loan situation, when no other financing seems to be available, it may be possible for
the borrower to negotiate for extension of the existing loan normally for a fee. The fee is normally
paid on the basis of the period of extension.
In relation to the extension quest, the borrower would take steps to approach the bank some months
before the loan matures, with evidence of the borrower’s unsuccessful refinance efforts and a
specific proposal for the extension. As part of the proposed extension, the borrower might also
request other modifications such as an interest rate reduction, if appropriate.

Differentiate between source of funds and application of funds in a company’s operations

Sources of Funds Application of Funds

i. Gains or funds from operation i. Losses from operation ii. Increase in Trade Credits
ii. Reduction in Trade Credits iii. Reduction in Stock iii. Increase in Stock
iv. Reduction in Debtors iv. Increase in Debtors
v. Sale of Fixed Assets v. Purchase of Fixed Assets vi. Increase in Instalment Credits
vi. Decrease in Instalment Credits vii. Increase in Lease Finance vii. Decrease in Lease
Finance viii. Increase in Loans viii. Decrease in Loans
ix. Increase in Share Capital ix. Decrease in Share Capital x. Deferred Tax
Payment x. Payment of Tax
xi. Receipt of Dividends xi. Payment of Dividends xii.
Reduction in Cash Balances xii. Increase in Cash Balances

xiii. Increase in Overdraft xiii. Decrease in Overdraft

Identify and explain the issues involved in the asset and liability management of a banking
system.

1. Liquidity Management
The main concern in liquidity management as regards the asset and liability management is the
funding liquidity risk embedded in operations of the banks. The funding of long-term loans and
other securitised assets with short term liabilities possesses a grave challenge to the banks. Banks
are in the business of ensuring that funds involved in the lending facilities are available with which
to meet their customers’ requirements. Poor management of these loan facilities and other
investments result in liquidity, interest rate and currency mismatches which is the concerned of the
bank operators.
In general terms, failure to manage asset and liability of banks effectively can have dire
consequences on the liquidity of any bank. In recognition of this grave implication, it is necessary
for the banks to put a workable framework in place to manage liquidity risk. This involves two
critical aspects:
Managing liquidity in the recognition that all the operations of any bank; and Managing liquidity as
the panacea of resolving the usual crisis that confronts the commercial banks.
There are appropriate guidelines that banks need to consider in effective liquidity management.
Such principles are as identifies below.
Diversify sources and term of funding – concentration and contagion were the killers in the recent
crisis.
Identify, measure, monitor and control – it is still surprising that many banks do not fully
understand the composition of their balance sheet to a sufficient level of detail to allow for
management of the risks.
Understand the interaction between liquidity and other risks – e.g. basis risk – the
flow on impact of an event in one area can be devastating to others.
Establish both tactical and strategic liquidity management platforms – keep a focus on both the
forest and the trees.
Establish detailed contingency plans and stress test under multiple scenarios regularly.
2. Mismatch Management and Performance Measurement
For practical purposes, a bank needs to decide whether it wants to take a relatively cursory approach
to asset and liability management risks. The other consideration is 10 6

whether a bank is prepared to take a more definite approach and target higher long - term earnings
which translates into profitable operations.
While the choice is that of the banks a bank normally realise that there is the need for right level of
skills and resources to be instituted and committed to support the function. In the face of dynamic
nature of banking industry, failure to do this can result in a poorly managed operation which can
arise from volatility in core earnings, economic instability, and unpredictable business cycle. The
mismatch position of the asset and liabilities normally results in the interest rate and liquidity risk
for the banks. There are various techniques that banks can use to examine the mismatch in a bank’s
balance sheet and it can be a difficult process if not supported with adequate systems. Depending
on systems and analytical support that a bank uses in the asset and liability management process,
the usual analysis is designed to identify:
static and dynamic mismatch; sensitivity of net interest
income; and market value under multiple scenarios such
as high stress.
The general practice is that majority of the banks normally set net interest income limits as a main
measure of performance while the more advanced banks also use market or economic value as a
secondary measure.
The use of interest income limits has become the industry benchmark simulation tool because;
it is relatively easy to understand and implement; it’s a single period measure that does not
require many assumptions, and it is easy for investors to understand because it is linked to
reported financial results.
Nevertheless, the approach is limited as it does not provide a full view of the risks of operations of a
bank or reflect fully the economic impact of interest rate movements. Market value or economic
value simulations on the other hand, offer a more complete assessment of the risk confronting
banks in their operations. 3. Funds Transfer Pricing
The funds transfer pricing system is a fundamental asset and liability management tool in the
banking system. The system creates the ability of the bank to immunize its operations from risk.
Therefore, it provides the basis for operational transparency and profitability. The process of funds
transfer pricing is normally designed to identify interest margins and remove interest rate and
funding or liquidity risk.
The system of funds transfer pricing, from operational perspective, effectively locks in the margin
on loans and deposits by assigning a transfer rate that reflects the repricing and cash flow profile of
each balance sheet item. This is because it is applied to both assets and liabilities.
The system in the asset and liability management is used to isolate the bank’s business performance
into discrete portfolios that can be assigned individualized metrics. Therefore, it facilitates the
centralization and management of interest rate mismatches. In addition, it also effectively allocates
responsibilities between the bank’s business units and the treasury department.
In a sophisticated banking system, the funds transfer pricing mechanism can also be used as a tool
to assist with management of the balance sheet structure with its rates adjusted to either encourage
or discourage product and customer flows. The inherent advantage is that it can lead to greater
understanding of a bank’s competitive advantage and assisting with asset allocation.
The funds transfer pricing rates are normally structured to include both interest rate and funding
liquidity risks with the derived transfer yield curve constructed to include appropriate premiums.

List and explain the forms of marketable securities in which commercial banks can invest.

1. Bill Of Exchange
Bill of Exchange is a financial contract acknowledging a debt which is separate and distinct from
the transaction going rise to the debt.
The seller of the products who holds the bill can negotiate it before maturity date usually to a bank
for a discounted value which is lower than the face value of the bill. This is also known as trade
bill. The Bill is therefore held by the bank for only a short time for about ninety days before
recovering the funds invested in it from the designated bank.
2. Letter Of Credit
This is a form of bill of exchange known as bank bill which is issued by a bank as an interaction on
the bill of exchange. The letter of credit is issued by the financial institution in place of the bill of
exchange indicating its wiliness to accept the bill of exchange up to a certain amount of a specific
period of time on behalf give buyer.
It is a form of lending because which is based on the fact that it may mature and the bank is
expected to pay for the importer for payment to the exporter. The payment is therefore paid by the
bank within a short time before recovering the funds invested in it from the designated bank.
3. Promissory Note
It is a negotiable instrument acknowledging a debt obligation in trade transaction. It is normally
issued by the debtor to a creditor indicating announcement to pay the amount involved at a
specified date. This can be issued by the acceptance house guarantying payment at a specified date.
This can also be negotiated by the seller to a commercial bank for a discounted value for cash
before the maturity date. The Note is therefore held by the bank for only a short time for about
ninety days before recovering the funds invested in it from the designated bank.
4. Factoring
It involves the selling of debts to a factor which can be a bank such as an investment banker for
immediate cash. This usage depends on the continued widespread use of trade credit.

Mention and explain the main types of loans and credits in which the banks invest their funds.

MORTGAGE LOAN
Mortgage is a kind of loan for which land or any other specific asset is offered as collateral security
for the repayment of the funds involved in the credit facility. This is also applicable to real estate
loans for which the building structures put up by the beneficiaries are automatically pledged as their
collateral securities.
Therefore, it is a kind of loan stock that has a fixed charge on the company’s specific assets.
Document of title to the assets, which usually consist of land and trading, will be in the hands of the
mortgage holders or their representative

REAL ESTATE LOANS

The real estate loans are credit facilities which are normally granted for the purchase or construction
of building structures. Such loan facilities are granted on the basis of the fact that the real estates in
terms of the landed property involved constitute the collateral security. Therefore, the real estate
loans are more or less mortgage loans.
The real estate loans are like the mortgage loans because they are associated with specific collateral
securities such as the building structures for which the loan funds are used to construct by the
beneficiaries. Therefore, the bank that grants the loans automatic has a legal lien over the building
structures constructed with the funds by the customers.
It suffices it to say that the real-estate loan facility can indeed assume the trappings of a mortgage
loan. It means that all the features of the mortgage loan are also applicable to all real estate loans.

BOND INSTRUMENT
This instrument is issued and held by the firm for over a long period of time, the repayment of
which is after a maturity period. The whole amount will be held until after maturity when it is
repayable. The bank that subscribes to bond will only be receiving the interest charges on periodic
basis.
In essence, bond is a loan instrument issued by a company with promise to pay back the fund
borrowed after a specific number of years. The interest accruing on bond is normally paid to the
holder at regular basis, say, semi-annually over the life of the debt
It is normally due for payment after 10 to 20 years when the face value (principal amount
borrowed) is paid back to the holder. The bond can be sold before the maturity date of the holder at
the prevailing market price determined by the forces of demand of supply.

INSTALLMENT LOANS
The installment loan involves a sum of money advanced by a bank to a customer for repayment
over a fixed time period in equal amounts. In return for the loan, the borrower agrees on a
repayment plan, which involves an amount that typically remains the same throughout the life of
the loan. The interest charges on an installment loan are normally factored into future repayments.
In another perspective, installment loan can be described as the type of loan that is granted on the
understanding that there will be periodic payments. Such amount of payment is based on a specified
period of time which can be longer or shorter depending on the term of agreement between the bank
and the customer. The cost of the installment loan depends on the interest rate and the terms
involved generally.
The terms of repayment of installment loans are normally expressed in months. The common
periods of repayment include 36, 48, 60 or 72 months. There are a wide variety of terms, ranging
from short term, medium term to long term. For instance, mortgages are installment loans with
longer terms such as 180 or 360 months of repayment. It implies that some installment loans may
be structured for payment over a period of years.