Credit analysts have an important role to play in framing a good quality loan portfolio of a bank. The authorities like credit committee and executive committee of the Board of Directors approve the credit facility mainly on the basis of appraisal of credit analysts. Apart from risk management issues raised by the department of Credit Risk Management (CRM), the credit analysis bears some inherent risks especially in developing countries like Bangladesh because of lack of good corporate governance practices in both banking and other corporate sectors availing credit facility. As such, the credit analysts have to be knowledgeable and methodical enough to complete the appraisal for reduction of such risks.
Sometimes, roles and responsibilities of the credit analysts as a part of corporate governance are not well-defined specifically and the credit analysts are not aware of their responsibilities due to lack of knowledge and gaps in stated job description. As a result, the credit analysts wrongly evaluate the credit worthiness on the following aspects:
UNDERSTANDING THE AUDIT REPORT: In most cases, the credit analysts do not go through the auditors' report, and they do not consider it their responsibility to read and understand the auditor's report correctly. The whole set of financial statements is not the report of auditors as may be perceived by many of them. The audit report is only of one or two pages clearly stated as 'Auditors' Report'. The auditors put their opinions in these pages as per Section 213(3) & (4) of the Companies Act, 1994 by enclosing the financial statements of the company signed by the company authority and auditors under Section 189 of the said Act. The enclosed financial statements are the property of the company and auditors will not add anything to the financial statements.
INTERPRETATION OF THE AUDIT REPORT: The credit analysts must know how to interpret the auditors' report. Unless it is interpreted properly, the opinion of the audit report may not be considered correct in evaluating credit worthiness. It may be explained by an example. A micro-finance institution (MFI) was disbursed a loan facility by a bank after evaluating the audited financial statement with an annual profit of Tk 250 million. When the file was audited by the internal audit team of the bank, it was observed that the auditors' report stated shortfall of provision of Tk 600 million. After considering this shortfall of provision, the profit of the MFI was turned into a loss of Tk 350 million and accordingly, financing of the MFI was considered wrong in view of risk of profitability. Had the analysts known how to read and interpret the auditors' report, the scenario would have been different. As such, the auditor must know the type of auditors' reports and the effects of opinion on the financials. Unless the effects of auditors' opinion are taken into consideration, the whole process will be a faulty evaluation and the fund may be kept in a faulty basket bearing the risk of losing.
The credit analysts must be aware of interpretation of four types of auditors' opinion- (1) unqualified opinion which is good and clear on true and fair view of the operational result and financial position, (2) qualified opinion, which is true and fair view subject to some disagreements of the financials and limitations on scope of work as stated in the report, (3) disclaimer opinion where the auditors are unable to express opinions due to some uncertainties and effects not assessed and determined, and finally (4) adverse opinion which is a full negative opinion on true and fair view. For each case, the credit analysts should analyse the effects of opinion with the financials and present to the approving authority accordingly.
RECOGNISING COMPLETENESS OF THE FINANCIAL STATEMENTS: Frequently, we see the credit analysts accept the so-called audited financial statements containing 3/4 pages or less than those. The analysts must know about the completeness of the financial statements. When the financial statements do not contain (i) financial position or Balance Sheet, (ii) Income Statement and Comprehensive Income Statement, (iii) Cash Flow Statement, (iv) Changes in Equity, and (v) Notes to the accounts including significant accounting policies, explanation and break-up of the figures, the financial statements will not be complete and should not be accepted for evaluation of the credit proposal.
The analysts try to transfer their responsibility to auditors on the plea of being faulty financials by auditors. The so-called audited financial statements may or may not be audited. The company or the auditors or both may be accused by law of unfair reporting or for fraudulent activities. In addition to that, the credit analysts cannot escape their failure to recognise the fake audited financial statements in evaluating the credit proposal.
RECOGNISING LEGAL ACCEPTABILITY OF FINANCIAL STATEMENTS: The credit analysts only check the signatures of auditors on the audit report and financial statements. They do not consider the signature of the company authority on the financial statements. As per Section 189 of the Companies Act, the financial statements must be signed by the required number of directors and company secretary, wherever applicable. Unless these are signed as required by law, the financial statements are not legally accepted and upon presentation to the court on challenging the legality of the financials, the credit analysts and entire credit team may be accused of accepting illegal set of financial statements.
REVIEWING POLICY AND PRESENTATION: The credit analysts generally pick up figures from balance sheet and income statement, and assess performance without reviewing the financial statements critically. The analysts should read, interpret and check the effects of accounting policy with figures and presentation of the financial statements. They should check the policy of recognising, measuring and disclosing facts and figures in line with appropriate and adequate information as required. The analysts of the financial statements should check the accounting policy, its impact and disclosures for their satisfaction because of having the probability of a substandard accounting and auditing system. Even if the accounting and auditing systems are of desired standard, the credit analysts should be satisfied on accounting systems and practices by their own review to protect the risk of bad investment.
VERIFICATION OF FIGURES: Credit analysts should think why do they need to dig out figures of financials for verification of the credit applicant as these have been audited by the auditors as per law? As it is audited and mandatorily signed by auditors, it is the basis of reliability and the work of credit analysts will start from here for analysis only. This writer does not disagree. But the analysts should verify some of the key figures of the financial statements as a token of accuracy and reliability of the financial statements. Instead of relying on outside certification, it is better to check some key figures for satisfaction.
ASSESS THE FUND REQUIREMENT: The credit analysts complete the appraisal process on the basis of fund applied for by the applicant. In many cases, the analysts fix the fund to be disbursed at a minimum level by assessing on lump sum basis or sometimes, they fix the amount to be disbursed as the applicant wants in the application form. The disbursement of both short and excess may not serve the purpose of the business and as such, the disbursement may be at risk for not using the money efficiently and effectively. Hence, the analysts should assess the fund requirement for efficient operation to ensure efficient repayment of loan.
CORPORATE GOVERNANCE: The credit analysts do not take into consideration the corporate governance system of the applicant in many cases. The credit analysts should assess the corporate governance practice, particularly the role and responsibilities of directors and management, internal control and compliance of all related laws and regulations. Due to lack of good corporate governance system, the operation of the applicant may collapse and the disbursement may turn into loss. Only good corporate governance system can ensure the sustainability of business with steady growth. So, the credit analysts should not neglect to evaluate the corporate governance practices of the applicant.
It is true and beyond any argument that the credit analysts are reviewers - not verifiers - of the financial statements. So, they must know how to recognise a complete and legal set of financial statements and how to review those. If they cannot recognise and analyse the audited papers with due care and prudence, their responsibility cannot be discharged by only accusing auditors for faulty set of financial statements. As reviewers, when they find any doubt about reliability in recognising, measuring and disclosing any financial fact/transaction, the credit analysts may verify some key figures of the financial statements also with the records of the applicant for their satisfaction. The basic principle of review is that information collected by self is more reliable than the information collected by outsiders or others. So analysts should not ignore and be reluctant on the above in conducting credit appraisal of any loan applicant.
The writer is a Fellow Member of ICAB.