3.6 Credit application lifecycle stages
3.6.2 Interview process
Lending to small businesses typically involves a three-stage process which begins with the screening of applicants. If the credit is approved, the second process would be contracting, and thereafter monitoring.
The Big 4 banks have set up separate departments for small business lending. As discussed above, this is a worldwide trend. Based on personal experience from a commercial lending background and information gathered from various authors, the process from application to a final decision for a credit application will be explored. The screening phase is the start of the lending process which begins with an interview. The interview process will now be further explored.
The applicant would be interviewed by a small business portfolio manager/bank official to obtain the basic information that a bank is interested to know with any credit application. The
basic information would typically include the following based on the citations of various authors (Carter, Shaw, Lam & Wilson, 2007; Krog, 2008; Harif et al., 2011) (refer to Table 3-1):
Table 3-1: Interview questions
Interview questions
Age of the business (specifically how long the business has been trading for).
Business activity.
The purpose of the loan.
The amount required.
Whether the owners1/managers have the necessary skill and experience to manage the business.
How the business will generate sufficient revenue to repay the loan.
How the bank will be protected if the business is unable to repay the loan.
Source: Authors own compilation
The bank official will in a professional manner ask the relevant questions to obtain the abovementioned information. Furthermore, the bank official must have some sense of comfort that the credit will be used for the intended purpose, for example, to generate more profit for the business, and not to be used for consumption spending (Harif et al., 2011). The applicant will be advised on how to complete an application form and to provide the bank with the relevant financial information.
The application form will normally include questions pertaining to the following (Petersen, 2004; Singapore, 2007; Carter et al., 2007; Krog, 2008; Harif et al., 2011) (refer to Table 3- 2):
Table 3-2: Application form information
Business: Owners/members/directors:
Legal name of the business and any trading name.
Legal status.
Number of years in business.
Type of business and industry.
Full details of
owners/members/directors.
Whether the applicant has the legal capacity to act on behalf of the business.
1 Owners may include: a sole proprietor; partners in a partnership, members of a Close Corporation (CC), directors of a Company ((PTY) LTD), and so on. For ease of reading the term “owners” will be used for this study.
Business: Owners/members/directors:
Type of product or service provided.
Where the business trades from and for how long.
Number of employees.
Banking details of the business account or personal account if the business does not have a separate business account.
Business address (also whether rented/owned, home-based).
Contact details: telephone/email address/ website.
Status with regards to insolvency.
A personal statement of assets and liabilities is to be completed by each owner.
Income and Expenditure Statement.
Status with regards to
sequestration/administration/debt counseling and debt review.
Source: Authors own compilation
The application for credit will require the authorized signature/signatures. Furthermore, consents may be required from the applicant such as the authorization to conduct credit bureau checks and requesting online bank statements from the applicant’s bank where the cheque account is held. Should the credit application be successful, the signed contract will serve as a legal document that binds the applicant to the terms and conditions. These terms and conditions include the cost of the loan to the customer; the loan amount; the term of the loan; and the requirements for collateral (Petersen, 2004).
The bank obtains information mainly from the following sources (Kumra, Stein & Assersohn, 2006; Carter et al., 2007):
Information provided by the applicant.
Credit bureau/trade information.
Bank information.
A visit by the bank representative to the business premises.
Due to the cost associated with this visit, this is not typically done in South Africa for small business lending. The purpose of the visit would be twofold; to ensure the business does exist, and to determine whether the business could potentially meet the credit policy criteria.
The information to be provided by the applicant usually includes the following: (where applicable) (Altman, Sabato & Wilson, 2010; Harif et al., 2011; Lisowsky & Minnis, 2015;
Minnis & Sutherland, 2017) (refer to Table 3-3):
Table 3-3: Documentation requirements
Documentation requirements
Proof of identification of owners/relevant parties and proof of address – in accordance with regulatory requirements.
Proof of registration documentation of the business.
Annual financial statements (these are to be audited if it is a Company) (Income Statement and Balance Sheet/ Profit and Loss statement). Typically for three years.
If the financial statements are older than six months at the time of application, the most recent management accounts must also be obtained.
Pro-forma statements for new businesses.
Cash flow statement.
Bank statements for the past six months (owners and business).
Projected cash flow statement – to review the business development and ability to pay.
Business plan.
Debtors age analysis.
Source: Authors own compilation
It is important for the banks to ensure that the information provided is coming from a reliable source, for example, from a reputable accounting firm. The banks will not accept “own”
company prepared financial statements (Minnis & Sutherland, 2017).
An additional important source of financial information, apart from financial statements, is the tax returns of a business. This is valuable to a bank during the assessment process as it provides information on a business’s income and expenses and also the assets and liabilities.
Furthermore, the tax return is to be submitted annually hence it could be a less costly substitute for financial statements. The downfall is that the tax return does not include cash flow statements, the balance sheets are not detailed, and the returns are not timely (Minnis &
Sutherland, 2017).
From the information requirements listed above, it can be derived that this information will be available for businesses that are more sophisticated and have been in existence for some time. For an entrepreneur buying over an existing business, the information such as the financial statements can be obtained from the existing owner (Krog, 2008).
Furthermore, banks normally review the existing business accounts with overdrafts/other facilities on an annual basis (or depending on the risk grading and collateral position), even in the event that the business does not request for an increase in credit. The financial information
will have to be provided by the customer to the bank for the review. This is done to ensure that any early warning signs of any credit risk can be detected at an early stage.
For start-up businesses, which are normally defined by banks as businesses which have been in operation for less than two years, there is no reliable "track record" of profits, which makes it difficult to determine the capacity of the business to repay the loan, and hence is considered risky (Minnis & Sutherland, 2017).