34. Analysis of a borrower’s creditworthiness by banks.

Crediting process is influenced by numerous and diverse risk factors, which can lead to non-payment of credit. That is why banks grant loans only after studying the creditworthiness of the client. Goals and objectives of the analysis of trustworthiness lie in the determination of borrower’s capacity to pay off his debts and degree of risk, which a bank is ready to accept; extent of credit, which can be granted under given conditions and facilities of its providing. A bank should analyze not only the capacity of the borrower to meet debt obligations on the fixed date, but also his financial status in the perspective.

Accepted classification of assets and liabilities allows conducting profound analysis of paying capacity and trustworthiness. Level of profitability and share of availability of internal funds determine financial status. According to these criterions, three groups of borrowers with different levels of risk of delay in credit repayment can be determined:

1. impeccable (безупречный) financial condition (share of internal funds and level of profitability is higher than average sectoral index)

2. satisfactory financial condition (corresponding index is on the same level as average sectoral index)

3. unsatisfactory financial condition (corresponding index is below average sectoral index)

By the existence and the quality of credit security, all companies (borrowers) are divided into 4 groups of risk:

1. impeccable security (deposit money, liquid securities, factory shipments, currency values, finished commodities or goods which are in popular demand)

2. satisfactory security

3. difficult to estimate security (existence of significant sums of production costs of semi-products or goods, demand for which is fluctuating; existence of unquoted securities)

4. lack of security

The enterprises of first type have the smallest risk of credit default and, vice versa, the enterprises of fourth type posses the highest risks of delay in credit repayment and that is why bank must pay a greater attention to the analysis of financial status and the security, which the borrower provide.

It does not simply internationally accepted list of criteria for creditworthiness assessments (analysis of annual financial statements, calculation of key figures, etc.), even though figures are highly condensed metrics which provide concentrated information in a numerical format and serve as extremely important indicators. Instead it refers to the limitations of objective creditworthiness assessments and considers the importance of what is termed moral creditworthiness. Admittedly, both credit assessment criteria are very important (financial and moral solvency).

Analysis of objective factors

• Gathering information. Surveys conducted among credit insurers reveal that, when deciding on a corporate client's credit limit, they rely mainly on information gathered from annual financial statements and sales figures. Their analyses usually encompass the last three to five sets of annual results, with the aim of identifying trends and developments. Most modern financial institutions (namely banks and insurance companies) use their own standardized computer programs to support their analyses, which focus on the development of companies:

• earning capacity, usually measured in terms of return on sales, cash flow, operating income and changes in aggregate operating performance over time,

• asset structure,

• capital resources;

• liquidity.

Creditworthiness assessments attach increasing importance to sector comparisons whereby the key figures of the company under analysis are compared with those of similar companies in the same sector.

• A computer-aided process is widely used whereby key figures are used to try to separate healthy companies from those at risk of insolvency. Discriminatory analysis is a recent variation on the theme of analysis based on annual results. The process is based on the premise that insolvent companies display certain common characteristics which may be more or less pronounced, can be expressed as key figures, and differ from the characteristics of healthy companies. The analyst uses a deciding characteristic which, when expressed mathematically, represents what is called 'the discriminatory function'. This function is a condensed overall figure that includes a number of individual figures. If the figure is less than a particular value, a negative credit rating is allocated, and vice versa.

Limitations of analyses based on annual results

In order to gain an in-depth knowledge of a company's financial situation, it is important, but not sufficient, to study its most recent balance sheets and income statements in detail. Changes of the data since the previous balance sheet can indicate an improving financial situation for a company or its deterioration. The data in balance sheet must be analyzed, compared with past data, interpreted in a present context, and extrapolated into the probable future.

The assessment of the risk must, therefore, be rounded off with a study that aims to assess the company's likely short-, medium- and long-term prospects. For this, an analyst will turn to information taken from budgets and planned figures. It is essential, therefore, to take an interest in the company's efforts to secure its long-term survival - in short, its strategic management.

Strategic management primarily involves giving intensive thought to issues relevant to the company's future survival. These issues are assessed against the management's benchmarks: liquidity, profit, current and future profit potential (e.g. competitive advantages, level of innovation).

Analysis of subjective factors - ethics and morals

Corporate personality plays an important role when it comes to assessing the creditworthiness of small and medium-sized enterprises in particular. In practice, analysts consider it very important to examine a company's working practices, i.e. its management. All assessments of the company's future performance assume that it is managed adequately and rationally.

Human factor. It is not enough to meet the economic and financial criteria that speak in favor of entering into a business relationship with the customer. The human and personal criteria are the same important because it is managerial team who leads the company towards success - or failure. One can quite feasibly claim that the characteristics of a company's management will determine whether that company has the potential for success or is condemned to failure.

A good reputation. In a sense, the question of a company's reputation leads us to seek information from third parties on the morals and capabilities of its management. Knowledge of a company's position also makes it possible to identify its place within a particular sector of industry, and to estimate roughly its position in the near future. Therefore, at the time of the credit assessment, it is extremely important to know what competitors, customers and suppliers think of a company, because the behavior of its partners will go some way to determining its future development and, consequently, its ability to pay when a loan falls due.

A profile of the customers' customers provides further valuable information. A company that is well positioned alongside the country's major firms and in the major markets abroad provides a creditable guarantee and reference for the customer's product, organization and management. It also represents financial security, as the borrower's ability to pay depends largely on that of its customers. An assessment of a borrower’s clients also enables us to build up a picture of the company's sales policy and to assess whether it has spread its risks.

Conclusion. The key to risk assessment

A company's financial strength is only one element, although a very important one, of risk analysis. Financial metrics are the deciding factor. Moral and ethical creditworthiness is difficult to measure and requires very good analytical skills.

35. Financial manager’s functions at the company.

The financial manager is an important position within the structure of any firm. Almost every firm of any size has a person whose role is "to create value from the firm's capital budgeting, financing, and net working-capital activities". This person is the financial manager, although that job may go by one of several different names. Financial managers oversee the preparation of financial reports, execute cash management strategies, and direct a corporation's investment activities. Increasingly, this job has also included detailing and implementing a corporation's long-range goals as well as those in the short term

The role of financial manager can be best understood by analyzing the definition of financial management. "Financial management is the area of business management, devoted to a judicious use of capital and a careful selection of sources of capital, in order to enable a spending unit to move in the direction of reaching its goals." This definition points to the four essential aspects of financial management, an analysis of which exemplifies the role of a financial manager.

They are:

- Financial management is a distinct area of business management - i.e. financial manager has a key role in overall business management;

- Prudent or rational use of capital resources -proper allocation and utilization of funds;

- Careful selection of the source of capital - determining the debt equity ratio and designing a proper capital structure for the corporate;

- Goal achievement - ensuring the achievement of business objectives.

Financial manager’s functions:

Recurring

• Financial planning including assessing the funds requirement

• Identifying and sourcing funds

• Allocation of funds and income

• Controlling the use or utilization of funds towards achieving the primary goal of profit/wealth maximization.

Episodic

• The preparation of financial plan at the time of promotion of the business enterprise

• Financial readjustment during liquidity crisis

• Valuation of enterprise at the time of merger or reorganization

• Such other episodic activities of great financial implications.