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Administration of Loans
Chapter outline:
Loan Covenants
Red Flag/Warning signal
Loan recovery Techniques
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Terms & Conditions of Loan Approval
Terms & Condition of loan may vary fromcustomer to another customer.
In accordance with banks lending criteria & loanpolicy.
Seven important elements.
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Loan Covenant
Written agreement or promise usually underseal between borrower and bank for the amountof the loan.
Include terms & conditions of the loan,warranties, duties of each parties and certaincontrol and restrictions on the borrower.
Prepared by legal firm which are usually panel ofthe bank.
Need to be stamped duty.
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Loan Covenant
A loan covenantis a condition in a commercial loan or bond
issue that requires the borrower to fulfill certain conditions or
which forbids the borrower from undertaking certain actions,
or which possibly restricts certain activities to circumstanceswhen other conditions are met.
Typically, violation of a covenant may result in a default on
the loan being declared, penalties being applied, or the loan
being called.
Covenants may also be waived, either temporarily or
permanently, usually at the sole discretion of the lender.
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Purpose of Loan Covenant
Established legal relationship
Prevent misunderstanding
Certain control and restrictions
Clarifies the responsibility of the borrower
Give assurance to the borrower
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Types of Covenants
COVENANTS
FINANCIAL
NON-FINANCIAL
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Types of Covenants
Financial covenants
Refer to maintenance of specific ration
Common financial covenants used:
DEBT EQUITY RATIO,
LOAN LIFE COVER RATIO etc
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Types of Covenants Non-financial covenants
Clause that requires the borrower to performcertain action
Ex: submission of periodical financialstatement, maintain a minimum gearing ratio
Affirmative covenant
Clause that restricts the borrower from doingcertain things
Ex: prohibition of mergers and acquisitionswithout bank approval.
Negative covenant
Clause that give the borrower information oncertain things.
Ex: action and penalties of default payment.Information covenant
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Contents of Loan Agreement
Must contains the following:-
1. Date of the agreement
2. Name & address of the borrower and the bank.
3. Purpose of the loan
4. Amount of the loan
5. Period/duration of the loan
6. Repayment method
7. Rights of the bank to charge penalty on late payment
8. Interest charge on the loan
9. Types of security for the loan
10. Other terms & conditions
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Legal Aspect of Lending
Loan agreement represents legal relationship between
borrower, bank and third parties if any.
In case of default or NPL legal action can be taken
against the borrower by the bank in accordance with
loan agreement.
Therefore, the loan agreement must be prepared
diligently.
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NON PERFORMING LOAN (NPL) A loan classified as NPL when the principal or
interest is due and unpaid for 3 months or morefrom the first day of default.
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6. Adequate information & valuation of the collateral.
7. Insurance coverage.
8. Inform the guarantor of his duty as a guarantor.
9. Notified the guarantor on the status of the loan
10. Disburse the loan once the perfection of the loan has
been done.
Legal Aspect of Loan Documentation
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Perfection of Securities
Land National code 1965 Section
Share
Debentures
Guarantees
Motor Vehicles
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Identification of Problems
(Warning Signal/Red Flag)
- Is the term used to describe the early symptoms or
warning signals of a loan prior to falling into repayment
default.
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Identification of Problems
(Warning Signal/Red Flag)- Financial warning signal.
- Balance sheet
- Income statement
- Bank account statement
- Management warning signal.
- management skills unable to cope with the environment changes
- Regularly changing position of BOD
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Identification of Problems
(Warning Signal/Red Flag)- Operational warning signal.
- Reducing profit and sales trend
- Changing demand and intensifying competition.
- General warning signal.
- More to natural disaster, can be combination of 3 signal
- Flood
- War, etc
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Loan recovery Techniques
Stage 1 : Cooperative workout agreement
Stage 2 : Collateral liquidation
Stage 3 : Reducing debt to judgment
Stage 4 : Enforcement and collecting judgment
- Levi, garnishment, equity receivership & public sales.
Stage 5 : Bankruptcy
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Judgment Against Problematic Borrower
An outright seizure of aborrowersproperty will be sold at a publicauction. The proceeds are used to settle debt and other legal claimsrelating to the judgment.
LEVY
The court may appoint a receiver to take control of the borrowersassets and try to get as much cash as possible out of the business to
repay the bank
EQUITY RECEIVERSHIP
The bank would require a court order to instruct the third partywithhold funds owed to debtor to forward the fund direct to thebank.
GARNISHMENT
When the market value of security charged is higher than theamount of debt owed the bank would apply for court order to sellthe charged asset to the public.
PUBLIC SALE
If borrower unable to pay the debt, court order on bankruptcy willbe applied. Voluntary bankruptcy is when debtor voluntary files aposition to relief from debt. While involuntary bankruptcy when the
debtor forced into bankruptcy by his creditor.
BANKRUPTCY