Credit Appraisal and Assessment
Credit Appraisal and Assessment
Credit Appraisal and Assessment
commercially profitable,·
socially desirable.·
Identification of right borrower with acceptable level of credit risk Evaluation of the
commercial, technical, and socio-economic feasibility of a project Compliance with banking
and legal laws of the country Study Material on Basic Level Credit for NCC Bank Limited 53
| P a g e From the viewpoint of the Borrower·
Being sure about the overall viability of a project to be undertaken. A way to receive
suggestions to improve any shortcomings of the project. From national point of view·
Optimum utilization of resources Achievement of national objectives.
Managerial Aspect·
Technical Feasibility·
Marketing Aspect·
Financial Viability·
Socio-economic Aspect·
Environmental Aspect·
Managerial Aspect:
In credit proposal one should describe proposed arrangement for executive management of
the concern both during the construction period and for regular operations thereafter.
Appraisal report also includes the particulars of proposed key technical, administrative and
accounting personnel. If the management is incompetent even a good project may fail. It is
rightly pointed out that if the project is weak, it can be improved upon, but if the promoters
are weak and lack business acumen, it is difficult to correct the situation. It is therefore,
natural that the financial institution very carefully appraises the managerial and
organizational aspects before sanctioning assistance for a project. For managerial and
organizational appraisal it is necessary to evaluate the following matters-
Academic Qualification·
Managerial Ability·
Management Soundness·
Technical Feasibility:
The importance of technical appraisal in project evaluation needs no exaggeration. Technical
appraisal of a project broadly involves a critical study of the following:
The following questions will be answered while assessing the technical feasibility: Is the
engineering design of the project sound?·
Has the size of the project plant that is, the proposed scale of operation been·
determined on a correct assessment of the requirement of the industry vis-à-vis market size?
Has due consideration been given to alternative production process?·
Marketing Aspect:
Marketing aspect is very important from banker’s point of view because it is ultimately the
sale of the goods in the market that will generate necessary cash flow for repayment of bank
loan. Therefore, bank must carefully analyze marketing aspect of the project to understand
demand and supply gap, detail marketing plan, feasibility of the projected sales, marketing
channels etc. Marketing Analysis: Why?
Marketing Analysis Generally Address the following Issues: A brief description of the
market·
Analysis of the past and present demand and supply·
Two considerations are taken into account while analyzing the marketing aspect. Company’s
external or macro-environment: Industry and competitive·
resource strengths and weaknesses, and competitiveness Industry Analysis: The main
objective of the industry analysis is to identify the main sources of competitive forces that lie
within the industry and strength of these forces. The key analytical tool is the ‘Portars’ five
forces model of competition which are: Assess strength of each of the five competitive
forces (Strong? Moderate? Weak?)·
Bargaining power of buyers and buyer-seller collaboration Explain how each force acts to
create competitive pressure.·
Decide whether overall competition (the combined effect of all five competitive·
The important tool that is used to analyze the company competitiveness is SWOT analysis.
SWOT represents Strengths, Weaknesses, Opportunities and Threats. For a company’s
strategy to be well conceived, it must be matched to both Resource strengths and
weaknesses§
Financial Viability:
The main purpose of financial appraisal is To assess if the proposed project is viable in terms
of its operation in the future years·
and its financial soundness. To see whether the project will be able to generate sufficient
surplus after meeting all·
operating costs and other day to day transactions to meet its long-term debt obligations. The
financial appraisal of a project thus covers the following aspects Preparation of Financial
Statements: Income Statement and Balance Sheet·
Cost-Volume-Profit Analysis·
Sensitivity Analysis·
Socio-economic Aspect:
In case of certain projects like irrigation projects, power projects, transporting projects, or
other infrastructures projects national profitability or the net socio economies benefits
consideration are as important as, and sometimes more important than, commercial
profitability considerations. For evaluation of national or socio economic benefits, the
following aspects are generally considered. Opportunity cost.·
Shadow prices.·
Employment generation·
Income distribution·
Self-reliance·
Improvement of infrastructure·
Environmental Aspect:
One of the basic flaws in project planning and design is the complete negligence or minimal
consideration of environmental and social costs and dependence only on economic analysis
for project preparation and investment. A failure to understand and internalize the adverse or
negative impacts on environment during project preparation could lead to several undesirable
consequences, which may ultimately jeopardize the very objectives of growth and
development for which the project was proposed. It is argued that sound environment
management reduces the unforeseen obstacles and bottlenecks that may otherwise hamper the
delivery of project objectives while helping to improve the environmental performance of
project operations. The key environmental issues resulting from agricultural, mining,
manufacturing, and urban operations include:
contamination of surface and ground water sources due to discharge of sewage and·
Guideline and Environmental Risk Rating Environmental Risk Management is for assessing
environmental risks and not intended to squeeze investment; rather it is for sustainable
finance. Environment management in the banking business is like risk management. It
increases the enterprise value and lowers loss ratio as higher quality loan portfolio results in
higher earnings.
Bangladesh Bank published first Policy Guidelines for Green Banking and Environment Risk
Management in 2011. The financial sector as a whole could not comply with the
implementation deadline with initial difficulties in applying those but has come forward
under the umbrella of BB to promote and support green banking in Bangladesh.
Traditionally, banking sector’s concern for environmentally degrading activities of clients is
like interfering or meddling in their business affairs. However, now it is being perceived that
environmental hazard brings risks to their business. Although the banking and financial
institutions are not directly affected by the environmental degradation, there are indirect costs
to banks. Due to strict environmental disciplines imposed by the competent authorities across
the countries, the industries would have to follow certain standards to run their business.
Credit risk can arise indirectly where banks are lending to customers whose businesses are
adversely affected by the cost of cleaning up pollution or due to changes in environmental
regulations. Credit risks are also associated with lending on the security of real estate whose
value has diminished owing to environmental problems (additional loss in the event of
default). Guidelines on Environmental Risk Management32 was prepared and circulated by
BB on January 30, 2011 to support Policy Guidelines for Green Banking (2011) featuring 32
BB BRPD Circular No-1, January 30, 2011
qualitative assessment of environmental risks for the financial sector. This guideline,
developed with the assistance of IFC, covers different conceptual aspects, applicability and
benefits of ERM along with organizational requirements, technical manual and technical
annexes for the financial sector in a consultative manner. The ERM guideline prescribes a set
of sector specific ‘Environmental Due-diligence Checklist’33 for financing environmentally
sensitive sectors34 by banks. Banks/FIs should conduct a preliminary environmental risk
review on each credit proposal using Environmental Due Diligence (EDD) checklists. There
is one General EDD checklist, ten Sector EDD checklists and a Guidance Matrix. Potential
borrowers will have to submit various documents to the DOE for obtaining the
Environmental Clearance Certificate. Banks/FIs need to obtain copies of these documents as
the background for completing the EDD checklists. The outcomes of both the General and
Sector specific EDD checklists are combined in the Overall Environmental Risk Rating
(EnvRR). Finally, it is a ‘yes’ or ‘no’ decision for financing the proposed credit based on
subjective judgment of ‘High’ ‘Low’ or ‘Moderate’ EnvRR. For ‘High’ EnvRR the credit risk
management should ensure that additional conditions/covenants are included.
The EnvRR should be considered along with the overall credit risk rating of a proposed credit
for financing decision. Environmental Risk Rating are required for all individual customers
(corporate, institutional, personal, small and medium enterprise) whose aggregate facilities
are above BDT 2.5 million for SME, financing; BDT 10 million for Corporate, financing and
BDT 10 million for Real estate financing.
In this guideline Bangladesh bank designed 14 environmental due diligent checklists. One for
general and other thirteen are sector specific. Among the thirteen sectors, six are included in
red category and six in orange category in the environmental conservation act 1995. In this
due diligent checklist BB focused on applicable environmental compliance certificate,
location of land, protection against climate change impact, top management commitment to
environmental management, potential borrower’s planning to address environmental issues,
manpower’s skill in addressing environmental issue, solid waste management, air emissions
prevention and control measures systems, ETP and waste water management, labor and social
issues etc. are considered. 34 Agri-business, cement, chemicals, housing, engineering and
basic metals, pulp and paper, tannery, Sugar and distilleries, textile and apparels, and ship-
breaking.
Environmental risk rating In the green banking policy, Phase-I, the environment risk
management gets a privileged in credit risk management. In 2011, Guideline for environment
risk management was introduced and in green banking policy the ERM is incorporated to
minimize the environment risk. According to this guideline, banks/FIs are required to
measure the environmental risk considering the environment due diligence checklist
(provided by this guideline). The number of rated projects is increasing over the years.
According to the ERM guideline, banks are supposed to place the high rated projects to the
Board for approval. In most cases, banks do not have policies or guidelines for the approval
of these high rated projects. The ERM guideline requires banks to establish and maintain a
database of NPLs due to environmental reasons and to have a reporting system on an annual
basis.