How do you rate banks

Rating

definition

In German, the term "rating" means something like assessment or evaluation. What is meant is a method of assessing the creditworthiness of a company. It is carried out by banks or rating agencies. They use special scales for this, which you can use to rate companies. Usually, however, they only receive an overview of the result at the end, but no information about the values ​​behind it.

1 What are the ratings?

Usually, the grades awarded by credit institutions and rating agencies are very opaque for companies. There is usually no justification or explanation of how the grades are awarded. This is annoying for companies as it doesn't tell them how to improve their grade in the future. The companies themselves must provide the bank with all the information requested.

The rating grades then serve as the basis for lending. It decides whether and in what amount loans can be granted to a company. Other conditions such as interest rates and maturity may also depend on this assessment. The rating systems may vary depending on the credit institution. Some are based on the German school grading system, others prefer an assessment according to US standards.

2 Which criteria play a role in the evaluation?

Depending on the bank or agency, the rating factors for lending may vary. However, some points are actually taken into account in all rating processes:

  • Management competence
  • Internal factors
  • Market and competitive situation
  • Financial situation
  • Outlook on the future development of the company
  • Relationship with the bank
  • Information behavior
  • Payment history

2.1 Management competence

Whether a company is successful or not depends on many factors, including the competence of its management. Wrong decisions by executives can have a significant impact on the company's success. For this reason, banks and rating agencies rate the quality of management when it comes to a company's creditworthiness.

Typical problems of the middle class

  • Family structures that do not reveal an entrepreneurial long-term perspective (succession / change of legal form, etc.),
  • often insufficient equity base,
  • only rarely written clear strategic concepts,
  • more reactive or tactical behavior,
  • lack of openness in communication with the bank,
  • Costs are recognized as a problem, but not systematically managed.

The assessment is carried out by the responsible bank advisor on the basis of the following information:

  • Meaningfulness and quality of the submitted (credit) documents,
  • previous company development,
  • Findings and impressions from discussions and company tours,
  • previous experience with the bank's customer (for existing customers),
  • local knowledge, personal contacts and personal information sources,
  • Information from banks and other business partners.

2.2 Internal factors

In addition to the quality of management, the future viability of a company depends on the business model and the quality and coordination of internal processes. Banks therefore assess the corporate planning and control, organization, human resources, purchasing, storage and transport area, production, marketing and sales area as well as accounting and finance of a medium-sized company - albeit to a different extent and with different intensity .

Banks attach particular importance to economic planning, control and management elements that are appropriate for medium-sized companies and that are indispensable for successful corporate management. This includes a qualified accounting system that provides meaningful figures about the current situation of the company, a recalculation of the orders as well as an appropriate corporate planning with sales and earnings forecast, investment, financing and liquidity planning. The bank also needs this information in order to get an overview of the current and future company development. The topicality of the submitted figures and the previous reliability of the forecast also play an important role in the assessment.

The following points are usually checked particularly intensively in medium-sized companies:

  • Risks from dependencies on individual customers and suppliers,
  • Risks from foreign business
  • Environmental, liability and other risks as well as their protection,
  • The creditworthiness of the borrower's customers and the risk of default on customer receivables,
  • Signs of company jeopardy such as B. judicial dunning procedures, frequent requests for information from third parties, investment freeze, emergency sales below cost, non-liability transfers of assets, deterioration of the payment method and avoidance of personal conversations.

This assessment of the operational conditions is based on

  • submitted written documents,
  • internal evaluations,
  • Findings from credit talks and company tours,
  • Information from the tax advisor and company employees,
  • Information from local contacts and external sources,
  • Press reports.

2.3 Market and competitive situation

Every company is embedded in an economic environment and is influenced by economic, market and, in particular, regional industry developments. As part of the credit check, banks therefore also assess the sales market and the sector situation, the intensity of competition and the competitive position of the medium-sized company.

Sales market and industry situation

The sales potential of a company depends to a large extent on the future development of demand. If the medium-sized company is active in an industry with rapidly increasing demand, it is easier to achieve significant increases in sales than in industries with declining demand. Even with great efforts, it is often not even possible to maintain the previous volume of business there. In the case of many small and medium-sized companies, however, the regional / local market must be taken into account, in which the development of demand may well deviate from the overall trend. Banks inform themselves in detail about the current situation and the expected future development of the relevant sales market and industry.

Intensity of competition

In addition to the development of the industry and the sales market, a company's future viability and potential for success also depend on the number, size and market power of its direct competitors. The more (also new) competitors fight for market shares and the stronger they are, the more difficult it becomes to generate good prices / high profit margins and sales growth. The assessment of the intensity of competition is therefore also included in the banks' market analysis.

Competitive position

Furthermore, credit institutions also assess the company's competitive position compared to their competitors, knowing full well that strong companies can achieve good results even in competitive market segments. The competitive position is judged primarily on the basis of the quality and progressiveness of the products and services, the customer and target group orientation, the productivity and the price / performance ratio.

The industry, market and competitive situation is assessed on the basis of:

  • Findings from written documents, factory tours and discussions with the relevant company or competitors,
  • Publications in newspapers, specialist magazines and data from other companies,
  • Information from business and professional associations, chambers, etc.,
  • own and external market and industry analyzes.

In order to evaluate the general industry and market situation, banks often have internal or externally purchased industry analyzes that rate the current and future forecast development of the individual industries with points or classify them into good, average and bad industries.

2.4 Financial situation

The analysis of the economic situation is the core of the credit assessment. The focus is on the evaluation and assessment of the annual financial statements or, in the case of companies that do not have a balance sheet, the income / surplus accounts as well as the statements of assets and liabilities. In addition to the annual financial statements, banks also assess current and future developments.

Annual accounts or income / surplus accounts

By analyzing the annual financial statements or the income / surplus accounts as well as the asset and debt statements for the past three years, the banks try to get a more precise picture of the company's development to date. In addition to the balance sheet and profit / loss account, the credit institutions also require explanations, possibly audited annual financial statements and, in the case of GmbHs, at least the notes and the management report. The banks attach particular importance to the topicality of the figures.

During the analysis, the banks break down the figures according to business aspects and form business key figures to improve the informative value and comparability. The figures and key figures are then compared over time (time comparison) as well as with the industry values ​​(benchmarking) and assessed individually by the loan officer. To do this, he needs additional background information, which he receives primarily through corresponding questions in the credit interview, findings from company visits and queries from the tax advisor.

The assessment is based on the principle of prudence, i. H. if no more detailed background information is known, the worst case is assumed. At most banks, the numbers are analyzed using statistical methods and automatically rated with a risk index. The following are assessed in detail:

  • Earnings position: the focus is on the operating result. In addition, banks also analyze the overall performance and important types of expenses. The assessment is based primarily on key figures, in particular the return on sales and total capital as well as the cash flow rate.
  • Asset situation: the focus is on equity. As a rule, banks critically monitor the appropriateness of private withdrawals in sole proprietorship. Furthermore, they analyze the structure and intrinsic value of the business assets as well as the investments. Above all, the equity ratio, as well as the total capital turnover, the storage period and the debtor maturity are used for the assessment.
  • Financial position: total debt and financial stability (asset coverage) are the focus. Liquidity (solvency) and the credit term play an important role. The decisive factor is the ability to service debt, i. H. the ability to meet the current interest and repayment obligations from normal corporate processes. Furthermore, the self-financing capacity is assessed - mostly on the basis of the dynamic level of indebtedness.

When preparing the annual financial statements, it must be ensured that

  • the information goes beyond the mandatory information according to the German Commercial Code,
  • Revenues and costs are presented segmented,
  • other operating income and expenses are explained,
  • A distinction is made between scheduled and unscheduled depreciation,
  • unusually high depreciation of the company's assets is shown,
  • Appropriation of profits, distributions, managing director salaries or withdrawals are disclosed,
  • a detailed description of the debt is provided,
  • the equity is described, in particular the outstanding or requested cash and non-cash contributions as well as the forms of hidden equity financing are discussed.

Current economic situation

Ultimately, the balance sheets only provide information about the past. Since the last annual financial statements were a few months ago, the banks need current data showing the development from the last balance sheet date to the current point in time.

The current economic situation is assessed on the basis of the current accounting evaluation (e.g. business evaluation and sum / data evaluation by DATEV). From this, the bank can see the development and the current status of all posted expenses and income as well as the asset (e.g. investments, customer receivables, etc.) and capital accounts (e.g. private withdrawals) and liabilities (also those with other lenders) . However, the result shown therein only includes the expenses and income that have already been posted. As a rule, the services that have not yet been billed, i.e. expenses that have not yet been booked, changes in inventory, accruals, provisions, etc. are also taken into account. The figures are therefore usually only partially meaningful and require explanation and must be corrected accordingly in almost all cases. To do this, the bank needs additional information (e.g. the current inventory of finished and unfinished products and the inventory).

2.5 Outlook for the future development of the company

Future economic development is crucial for proper interest payments and loan repayments. The basis for their assessment by banks are e.g. B. a success forecast, investment, financing and liquidity plans. If such information material is not made available by the bank or is not available at all, the bank can only rely on verbal information to assess the future. If no strategic papers are submitted to the bank, this is automatically rated as negative.

Based on market forecasts, industry values, the competitive position and the previous development of the company, the existing order backlog, etc., the submitted plans are checked for their feasibility. Banks rate exaggerated target values ​​just as negatively as failure to comply with earlier target figures.

2.6 Relationship with the bank

The banks also draw important insights into the creditworthiness from the analysis of the previous business relationship as well as the previous information and payment behavior of the borrower. The longer the business relationship with the bank has existed, the better a mutual assessment can be made. The duration and quality of the previous business relationship is therefore taken into account by many banks when checking creditworthiness.

2.7 Information behavior

In order to get a precise picture of the economic situation, the bank needs up-to-date, comprehensive and reliable information. The company's information behavior towards the bank as well as the transparency of the economic situation also flow into the bank's assessment. The banks rate z. B. the unsolicited submission of current and meaningful documents (e.g. annual financial statements, accounting evaluations, etc.) and an open information behavior, even in difficult situations. On the other hand, banks rate z. B. the very common late submission of the annual financial statements only after repeated requests.

2.8 Payment history

While annual financial statements and even bookkeeping evaluations only provide information about the past, banks gain a good insight into the current financial situation by continuously monitoring the current account and payment history. In many cases, the account analysis is carried out automatically by the IT, which systematically records and evaluates all current account postings.

With regard to account management, the bank expects the agreed credit lines to be adhered to. It rates positively if the credit line is only partially exhausted, there is a credit balance on accounts in between and the account turnover develops positively and in accordance with the business volume. On the other hand, increasing credit utilization without a corresponding increase in turnover, constant exhaustion or frequent, unsettled overdrafts of the credit line, a disproportionate decline in account turnover and non-compliance with repatriation commitments are assessed critically.

Payment behavior is assessed positively if discounts are applied regularly. Negative features are late payments (e.g. wages, supplier invoices), check and direct debit returns due to insufficient funds, possibly increased payments with bills of exchange, etc.

3 Transparency and information as the basis for rating discussions

The basis for a good credit rating at the bank is a good information policy. It is of little use to the bank if the borrower has elaborate planning documents, but restricts himself to a minimum of information from the bank. If the bank is not provided with information on important future issues and strategies, the points concerned will be given a negative rating. If necessary, it is essential to also discuss confidential planning documents with the relevant banks. The relationship of trust between company and bank employees is the foundation of a good and successful cooperation, especially in difficult times.

Another basis for a good rating is transparency, i. H. to continuously provide the relevant banks with up-to-date information about the business strategy and the course of business without being requested to do so. A timely submission of the annual financial statements, preliminary and current figures should be a matter of course. Due to the constant exchange of information and ongoing communication, there should be no unexpected surprises when the numbers are presented.

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