TABLE OF CONTENTS Many bankers would prefer to extend unsecured credit because unsecured loans entail lower overhead costs. Firms unable to borrow unsecured generally fall into these categories:
New and unproven business life cycle
Questionable ability to service unsecured debt
Year-round financing in amounts too large to justify unsecured credit
Working capital and profits insufficient to periodically clean up short-term loans
Working capital inadequate for sales volume and type of operation
Previous unsecured borrowings no longer warranted because of various credit factors
Loan amounts that fall beyond the borrower's unsecured credit limit
Secured borrowers can be categorized into two broad market segments: short- and long-term.
Banks can utilize collateral and guarantees to help mitigate risks inherent in individual credits but transactions should be entered into primarily on the strength of the borrower's repayment capacity. Collateral cannot be a substitute for a comprehensive assessment of the borrower or counterparty, nor can it compensate for insufficient information. It should be recognized that any credit enforcement actions (e.g., foreclosure proceedings) typically eliminate the profit margin on the transaction. In addition, banks need to be mindful that the value of collateral may well be impaired by the same factors that have led to the diminished recoverability of the credit. Banks should have policies covering the acceptability of various forms of collateral, procedures for the ongoing valuation of such collateral, and a process to ensure that collateral is, and continues to be, enforceable and realizable. With regard...
