Abstract
Over the past three decades, the relative bank loan demand has changed due to the arising small and medium-sized enterprises (SMEs). Therefore, banks in their operations face the problem of processing an ever-increasing number of loan applications. The aim of this paper is to develop an auxiliary approach to assessing the prior creditworthiness of long-term SME projects with nonstandard cash flows.This study reveals how the principles of value-based management can be incorporated into the process of borrower’s creditworthiness assessment to improve the process of screening loan applications. For this, the internal rate of return was used as a criterion for loan granting decision at the initial stage of loan underwriting.An algorithm for the preliminary evaluation of loan applications is proposed and is based on the principle of maximizing the shareholder value of banks. This algorithm helps to define the credit terms taking into consideration the distribution of positive cash flows throughout the project’s expected economic life, calculate the possible real effective interest rate concerning the borrower’s nonstandard cash flow schedule, make a rough analysis on the economic efficiency of lending and state the necessary criterion to initiate the procedure of loan underwriting for the projects with nonstandard cash flow schedules. The proposed estimation algorithm stemming from the IRR-approach for the cash flow analysis can also be initially used by a borrower as a tool for credit solvency self-testing via screening of periods with corresponding cash flows that can be used for loan servicing.
Highlights
The cash flow analysis can be initially used by a borrower as a tool for credit solvency self-testing via Application of the proposed algorithm gives the screening of periods with corresponding cash flows lender the opportunity: that can be used for loan servicing
The lender has to recheck derwriting for the projects with nonstandard the borrower’s estimates and create its long-time cash flow schedules where the calculated hur- forecast of the borrower’s creditworthiness and lidle rate represented by internal rate of return (IRR) outnumbers the quidity based on the declared by borrower’s lender’s cost of capital; cash flows and on all cash flows adjusted for risk that can be used for loan servicing from the lender’s
The investigation of the standard approach to assessing the credit solvency has shown that in some cases loan application can be rejected by procedural technicalities, since there are inconsistencies between the nonstandard schedule of cash flows earmarked for loan servicing by a prospective borrower and the cash flow templates of traditional long-term credit facilities
Summary
In the history of economics, SMEs’ access to a source of funds such as bank loans has been considered a key factor in economic development (Mills & McCarthy, 2014). To start the procedure of the loan underwriting, The omission of this criterion results in the negabank has to determine the credit in- tive value of credits’ NPV: terest rate (r) and the term of credit (T) What is more, both criteria under consideration are interdependent and depend on the proposed potential borrower’s schedule of cash flows that are reffective. Vironment, the fitted value of IRR CFsreserved as an equivalent of reffective can be treated as acceptable for To check the effectiveness and demonstrate how the selected bank; on the other hand, it can lead to the proposed algorithm can be used in a real-case the situation when this bank experiences implicit scenario to define the loan terms, where the polosses providing loans with the credit interest rate tential borrower’s cash flows intended for loan serlower than the prevailing market rate (rmarket).
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