Best Practice #1 – Know Your Borrower
Knowing a prospective borrower’s industry is essential, and the foundation for all other steps in the credit risk management process. The successful lender must be comprehensively informed on borrower’s industry in general, along with a pertinent, accurate, and timely knowledge of business operations.
For example, the transportation industry continues to experience a severe driver shortage, impacting domestic and international operations. Individual Post-COVID-19 transportation operations will likely involve increased automation, risk management efforts, stepped up credit and account collection, and attempts to better prepare for unforeseen events. The leaders in the transportation industry know this all too well, and are likely seeking financing advice to address some or all of these complicated issues.
Before beginning any financial analysis, it is important to understand why the borrower is seeking a loan. Trucking companies in particular have high expenses to maintain operations. In order to do so, many seek transportation and trucking business loans. Trucking business loan programs are a great way to maintain operating cash flow to keep up with the constant capital demand. Trucking companies can use trucking business loans to finance new vehicles, pay for fuel expenses, maintain payroll, satisfy insurance costs, and for routine maintenance on trucks and trailers. Identifying the reason for borrowing may provide lenders with valuable insight into the company’s ability to repay. A complete understanding of the historical and projected financial performance of the borrower is key to the analysis and overall credit risk management.
Next, the financial condition will need to be accurately established including, but not limited to, a thorough analysis of the products, services, customers, suppliers, documentary transactions, facilities, management, ownership and general history of the borrower.
This knowledge will not only lower and make the lender’s financial risk more manageable, but will facilitate the initial observations and evaluations upon which the ultimate lending decisions will be based.
Best Practice #2 – Analyze Nonfinancial Risks
Understanding nonfinancial risks are equally critical. Information gathered in this step is important not only to inform the subject financial transaction itself, but to position the lender as a knowledgeable and trusted financial consultant of the borrower. In subsequent information gathering, investigating the competition, market share, and the probable impact of economic conditions on the business are needed as well. This informational due diligence should include a business strategy, and what the business has done and must do in the future to meet the borrower’s (and lender’s) goals and long term success expectations.
Such “non-financial risks” include key employee recruitment and retention, capital investment, and future ownership and succession planning. How these risks are financially mitigated or reserved, for example through insurance coverage, lines of credit, and/or capital commitment(s), are all crucial considerations for credit approval, and thereafter, to the loan structure.
Ultimately, the key question must be: “How do the identified risk factors affect the borrower’s ability to timely repay the debt?”
In short, analysis of the industry, business, and management risks goes hand in hand with financial analyses to forecast the credit worthiness of an individual transportation borrower.
Best Practice #3 – Understand the Transaction
Lenders should know how the requested funds are going to be used and how they are anticipated to be repaid, as well as how the borrower’s obligations are to be secured; for example, via real estate, assets, accounts, personal guarantees or other security agreements/liens.
These considerations should focus on the financial capacity of the company as evidenced by the information provided, and examine the accuracy of the information as well as the quality and sustainability of on-going financial performance.
Once this process has been completed, applying the appropriate loan structure should become evident. By taking the time to understand the personal, financial, and business strategies of the owners, presenting a risk profile acceptable to your financial institution should be complete.
Conclusion
Now more than ever, there are many benefits and risks associated with establishing a banking relationship with any entity or individual, especially within the trucking industry.
Each step of the process should be conducted with a view to create or enhance the business relationship, promote goodwill and trust, and ultimately to solidify a mutually beneficial, long-lasting relationship.
A thorough knowledge of the transportation industry and the transportation customer’s particular business operations will best serve these purposes.