FINA 4400 Final Exam Ch. 20
Terms in this set (42)
Provision for loan losses, net charge-offs, and the percentage of nonperforming loans all increased dramatically in 2007
Gross debt service usually must be greater than 30% before a residential mortgage will be approved:
A well-managed bank tries to keep the ratio of nonperforming loans to total loans at about 8% to 10%
Individuals with higher levels of income must have higher GDS and TDS ratios to qualify for a loan
Collateral on a mortgage is normally only considered if the applicant has enough income to service the loan
The five Cs of credit are financial capacity, collateral, conditions, connections with the bank, and capital
Credit analysis of a mid-market corporate borrower differs from the analysis of a small business in that the analysis of the mid-market borrower is more focused on the business itself and less on the business owners
As long as overall cash flow growth is positive, a bank loan officer would not be concerned if cash flow from operations was projected to be negative over the term of the loan
rising sales to working capital ratio may indicate a potential borrower is using its net current assets more efficiently
The more variable are a borrower's cash flows, the lower the fixed charge coverage ratio should be to limit risk
Issuance of short-term debt would result in an increase in cash flow from operations on the statement of cash flows
If you were a loan officer evaluating a small business credit application for a loan secured by working capital, you would generally want to see a higher (rather than lower) number of days in inventory and number of days' sales in receivables
If you are a lender evaluating a loan application and you calculate the following ratio: (EBIT + Lease payments)/[Interest + Lease payments + (Sinking Fund/(1-T))] then you are calculating a debt service ratio and it should be less than one in order to approve the loan
A firm's cash account grew by $300 over the year when the firm had cash flow from financing of -$150 and cash flow from investing of $100. The firm's operating cash flow must have been +$250
Asset management ratios are used in credit analysis to help understand the borrower's ability to generate sales from the amount invested in some asset category
Non-performing loans are loans that are past due _____ that are not accruing interest.
_______ is the process of taking possession of the mortgaged property to satisfy the debt in the event of failure to repay the mortgage and foregoing claim to any deficiency.
Which one of the following is usually the better predictor of default?
The base loan rate accounts for:
the firm's cost of funds AND the firm's required return on equity (I and II)
Which one of the following 5 Cs of credit is NOT correctly defined?
Capacity - Whether the borrower has enough other credit available to pay off the loan in the event of cash flow problems
A corporate customer obtains a $1.5 million loan from a bank. The customer agrees to pay a 6.25% interest rate and agrees to make compensating balances of 4% of the loan amount. These will be held in non-interest-bearing transactions deposits at the bank for one year. The bank charges a 1% loan origination fee on the amount borrowed. Reserve requirements are 10%. What is the expected rate of return to the bank (k) (to the nearest basis point)?
7.52%; (1% + 6.25%)/(1 - (4%(1 - 10%))) = 7.52%;
Using only the GDS criteria, which one of the following statements is true?
Both get the loan
Using only the TDS criteria, which one of the following statements is true? Bill gets the loan but not Joe; Joe: TDS = ((2700 x 12) + 3000)/100,000 = 35.40%; Bill: GDS = ((1150 x 12) + 1400)/45,000 = 33.78%;
Joe is over the maximum of 35%, Bill is under;
Individual credit scoring models typically include all of the following information except:
A corporate loan applicant has cash of $40, receivables of $50, and inventory of $20. The applicant also has current debts of $65. If the bank's policy requires a current ratio of 1.75 or better and an acid test ratio of 1.25 or better would the applicant receive the loan?
No, because although the applicant's acid test ratio is acceptable, its current ratio is not;
Big Valley's current ratio indicates that Big Valley is ______ liquid than the typical firm in the industry and Big Valley's quick ratio indicates that Big Valley is ______ liquid than the typical firm.
Big Valley's return on equity indicates that the firm generates a _____ return to their shareholders than their peers.
Big Valley has a times interest earned ratio that is _______, which indicates that Big Valley has _______ long-term insolvency risk than the typical firm in the industry.
3.91; more; [(275 + 500 - 560)/55] = 3.91; more
; Altman's Z-score model is Z = 1.2X1 + 1.4X2 + 3.3X3 + 0.6X4 + 1.0X5 3.22; Big Valley's fixed asset efficiency is ______ the typical firm in the industry.
Big Valley is collecting their receivables about _____ than the typical firm.
17% more slowly
Big Valley's use of debt to finance assets indicates that Big Valley has ______ the typical firm in the industry.
more long-term solvency risk than
Mid-market commercial lending may be typically defined as:
borrowers with sales revenue between $5 and $100 million AND with a recognizable corporate structure (I and II)
analyzing credit risk for a loan to a major diversified corporation, the bank typically has which of the following advantages?
Market-based models to analyze credit risk AND Ratings agency measures of default risk (I and III)
A firm with a low Z-score has:
high insolvency risk
Business credit-scoring models suffer from several weaknesses. These include which of the following?
The appropriate weights on a credit-score model are likely to change unpredictably over time AND These models ignore non-quantifiable behavioral factors, such as a relationship with the bank and reputation (II and III)
The conditions specified in a credit agreement that must be fulfilled before a drawdown is allowed are called:
The EDF model uses the borrower's current market value of equity and assets and the option-pricing model to:
assess the implied riskiness of the firm's investments
A bank charges a commercial borrower a 6.55% interest rate on a 1-year loan. The bank also charges a 0.5% origination fee and requires compensating balances of 7% in the form of demand deposits. Reserve requirements are 10%. What is the promised gross rate of return on the loan?
7.52%; (0.005 + 0.0655)/[1 - (0.07 * (1 - 0.10))] = 7.52%
If you were a loan officer evaluating a small business credit application for a loan and you wanted to ensure that the applicant had more than sufficient cash flow to pay off its existing debt:
the applicant's cash flow to debt ratio would have to be greater than the interest rate on the debt
In concept, the RAROC measure indicates a loan is acceptable if:
the RAROC is greater than the lender's ROE
As a business lender, you would prefer that the borrower have stable or growing cash flows resulting from which part of the statement of cash flows?
Operating cash flows
A bank is using the RAROC to evaluate large business loans. The benchmark rate of return is 7.55%. The 1-year loan interest rate is 8.00% and the bank must pay 7.40% to raise the funds. The cost to service the loan is 0.3%. If the loan defaults, 92% of the money lent will be lost. Based on historical default rates, the extreme worst-case loss scenario is about 5%. Should the bank make the loan?
No, because the RAROC is 6.52%