Introduction
Bankers analyze financial statements to assess the creditworthiness of a borrower. They want to understand the borrower’s financial position, profitability, and liquidity to determine whether the borrower is likely to repay the loan.
The purpose of financial statement analysis by bankers
The purpose of financial statement analysis by bankers is to:
- Assess the borrower’s creditworthiness: Bankers want to understand the borrower’s financial position, profitability, and liquidity to determine whether the borrower is likely to repay the loan.
- Set interest rates and fees: Bankers use financial statement analysis to set interest rates and fees on loans. They want to ensure that they are adequately compensated for the risk of lending to the borrower.
- Monitor the borrower’s financial performance: Bankers use financial statement analysis to monitor the borrower’s financial performance after the loan is made. They want to ensure that the borrower is able to repay the loan and that the loan is not becoming a risk to the bank.
The process of financial statement analysis by bankers
The process of financial statement analysis by bankers involves the following steps:
- Obtain the financial statements: Bankers will first obtain the borrower’s financial statements. This includes the balance sheet, income statement, and cash flow statement.
- Review the financial statements: Bankers will review the financial statements to get an understanding of the borrower’s financial position, profitability, and liquidity. They will look for trends in the financial statements and compare the borrower’s financial performance to industry averages.
- Perform ratio analysis: Bankers will use ratio analysis to compare the borrower’s financial performance to industry averages. This will help them to identify areas where the borrower is strong or weak.
- Meet with the borrower: Bankers will meet with the borrower to discuss the financial statements and to get a better understanding of the borrower’s business. They will also ask questions about the borrower’s plans for the future.
- Make a lending decision: Based on the analysis of the financial statements and the meeting with the borrower, bankers will make a lending decision. They will decide whether to approve the loan, and if so, at what interest rate and fees.
Multiple choice questions:
- Which of the following is not a factor that bankers consider when analyzing financial statements?
- The borrower’s industry
- The borrower’s financial position
- The borrower’s profitability
- The borrower’s management team
- The answer is The borrower’s industry. Bankers do consider the borrower’s industry when analyzing financial statements, but it is not the only factor that they consider.
- Which of the following is not a ratio that bankers typically use to analyze financial statements?
- Debt-to-equity ratio
- Current ratio
- Return on equity ratio
- Profit margin ratio
- The answer is Gross profit margin ratio. Bankers do use the gross profit margin ratio to analyze financial statements, but it is not as commonly used as the other ratios listed.
- Which of the following is not a limitation of financial statement analysis?
- Financial statements can be manipulated.
- Financial statements are backward-looking.
- Financial statements are not always accurate.
- Financial statements can be complex and difficult to understand.
- The answer is Financial statements are not required by law. Financial statements are not required by law, but they are still an important tool for bankers to use when making lending decisions.