Last Friday, October 12, 2007 we have a very successful seminar on Credit Evaluation And Risk Scoring at the Cebu Parklane Hotel. It was attended by 30 participants coming from different fields and industries. Credit risk scoring in the Philippines is not totally new as this was already being used by most commercial banks and credit card companies.
Credit risk is an inherent element present in every credit transaction. It arises from the personal circumstances of the debtor, be it a person or a business entity, which prevent the payment of a debt obligation when due. The risky transaction is the one which creditors want to avoid, for they would spare themselves the losses and complication often resulting there from. Since credit involves risk, a systematic credit-scoring model must be set up. Bear in mind that it is not the one, which has any element of risk, but the one, which has an abnormal and dangerous amount of risk that should be avoided. Thus, this is the very reason why we have to be diligent in handling and evaluating credit risk. A credit risk scoring model could be simple and/or complex depending on the sophistication of the business. For simple models, The principal factors to be taken into account in deciding whether or not credit should be extended, in what amounts, and on what terms, are simply called: the Five C’s of Credit, namely:
Character – represented by the aggregate of distinctive mental and moral qualities belonging to an individual borrower. Moral signifies an active sense of what is right and wrong. Character and/ or moral qualities include trustworthiness, fairness, responsibility, and integrity, among others. Character may be determined after a thorough investigation and evaluation of evidence made available or by asking a third party credit bureau.
Capacity – refers to a borrower’s ability to obtain the means of payment when his obligation becomes due. The importance of this factor is evident, for however desirous a debtor is of paying, if he lacks the ability to pay he is as surely a poor credit risk as though he were in want of willingness to do so. Capacity is determinable by analyzing a borrower’s financial statements, referrals to known associates as well as personal interviews and ocular inspection of his business premises.
Capital – is the financial strength of the risk, consisting of the amount of quality of assets expressed in money terms, which an individual or firm possesses in excess of what it owes. Accountants call it the net worth of the borrower. Capital can be determined out of the balance sheet of a credit applicant.
Collateral/ Co-Maker- any property or third party used as security in place of capacity or capital.
Conditions – may be perceived as the general business environment or circumstances prevailing at the time a credit request is being made. The merit of an opportunity to extend credit upon the prevailing and prospective conditions, and these for the most part are beyond the immediate affairs of the individual or firm. General business conditions are one of the factors, which color the appearance of a credit risk at any given time.
(Mr. Ed Limtingco can be reached at 0917-7220521 or at elimtingco@cibi.net.ph)