Financial Credit: Meaning and Objective, Credit Risk, Credit Analysis, Seven C’s

Financial credit refers to the provision of funds or resources by one party (the creditor) to another party (the debtor) with the expectation of repayment with interest over time. Credit is a fundamental component of the financial system, enabling businesses and individuals to access funding to finance investments and consumption.

The primary objective of credit is to provide access to funds that enable economic growth and development. Credit can be used to finance investments in business expansion, real estate, education, and other productive activities that generate income and employment.

Credit risk is the risk of default or non-payment by a borrower. Credit risk arises when a borrower is unable or unwilling to meet their debt obligations, which can result in a loss for the creditor. To manage credit risk, creditors conduct credit analysis to evaluate the creditworthiness of potential borrowers.

Credit analysis involves assessing the creditworthiness of a borrower using a variety of factors, including the Seven C’s of Credit:

Capacity: the borrower’s ability to repay the debt based on their income, assets, and expenses.

Capital: the borrower’s financial position, including assets, liabilities, and net worth.

Collateral: the assets that the borrower pledges as security for the loan.

Conditions: the external factors that may impact the borrower’s ability to repay the loan, such as the economic environment or industry trends.

Character: the borrower’s reputation, credit history, and reliability.

Cash flow: the borrower’s ability to generate sufficient cash flows to meet their debt obligations.

Control: the borrower’s management and governance practices, which can impact their ability to repay the debt.

Overall, credit analysis is a critical component of managing credit risk and ensuring the sustainability of the financial system. By evaluating the creditworthiness of borrowers and implementing appropriate risk management strategies, creditors can minimize the risk of default and promote the availability of credit to support economic growth and development.