CREDIT AND

COLLECTION
reviewer

Credit Card
● payment card issued to users to
enable them to pay a merchant for
goods and services 1. Issuing Bank Logo
● revolving credit which issers 2. EMV Chip (Smart Cards)
commits a fee to utilize the funds 3. Hologram
when needed 4. Card Number
● funds supplied by banks at an 5. Card Network Logo
interest as charges 6. Expiration Date
7. Card Holder Name
Parties Involved 8. Contactless Chip
● Cardholder
○ rightful owner of the Reverse Side
instrument
● Card-issuer
○ guarantees the cardholder
○ charges the user and bears
the risk of the card usage
○ offshore credit cards -
prevalent
○ bank or credit union
● Merchant
○ acknowledges the credit
card in payment 1. Magnetic Strip
● Acquiring Entity ○ conforming to ISO/IEC 7813
○ accepting payment on 2. Signature Strip
behalf of the merchant 3. Card Security Code
● Transaction Network
○ system that implements the Features
mechanics of the ● 85.60 mm x 53.98 mm (3.370 in x
electronic transactions 2.125 in)
which may be operated by an ● rounded corners with a radius of
independent company 2.88-3.48mm
○ VISA and Master Card ● conforming to ISO/IEC 7810 ID-1
standard
● same size as ATM cards and debit
Physical Features cards
Front

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 ● printed or embossed bank card
number complying with ISO/IEC
7812 numbering standard
Bank Identification Number
● sequence of digits at the beginning
of the number that determine the
bank to which a credit card number
belongs
● 1st 6 digits: MasterCard and Visa
Card
● next 9 digits: individual account
number
● final digit: validity check code
Charges Computation
● Annual Percentage Rate
○ actual yearly cost of funds
over the term of a loan
● Daily Periodic Rate
○ institution charges interest
everyday
○ dividing the number of days
in a year by either 365 or 360
○ Average Daily Balance -
determined and reveals how
much is owed
■ may change
throughout the period
due to making partial
payments or
increasing purchases
■ weighted average
account balance by
days outstanding
Pawnshop
● tender small loans in trade for
personal property with economic
value as corresponding collateral
● 30 or 90 days
○ when the loan is settled in
due time, the submitted
collateral may be
repurchased
○ otherwise, it can be
liquidated through “subasta”
PD 114 (Pawnshop Regulation Act)
Section 4: Form of Organization
● single proprietorship, partnership, or
corporation
Section 5: Registration and Licensing
● single proprietorship: Bureau of
Commerce
● corporation: Security and
Exchange Commission
● secure license from appropriate city
or municipality
Section 6: Registration with CB
● file an information sheet under
oath before commencement of
operations
● pawnshops operating before
approval of decree shall register
within 6 months from date of
effectivity
Section 7: Capital
● min paid-in capital : P100,000
● if operating before approval of
decree, 3 years allowable
Section 8: Citizenship Requirement
● at least 70% shall be owned by
Filipino citizens
● foreign ownership should not exceed
30%
Section 9: Amount of Loan
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 ● not less than 30% of appraisal
value unless pawner manifests the
desire to borrow a lesser amount
Section 10: Rates of Interest
● not higher rate than the rate allowed
by Usury Law
● max service charge: PHP 5
○ shall not exceed 1% of
principal loan
Section 11: Maintenance of Records
● shall keep a memorandum book
● person who is unable to write shall
imprint his thumbmark and his
name shall be written by a
competent person who will sign as
witness for thumbmark
Section 12: Pawn Ticket
● at time of loan, pawnbroker shall
deliver a ticket signed by him
Section 13: Redemption
● failure to pay on due date, within 90
days, pawner may redeem the
pawn by payment of principal with
interest
Section 14: Disposition of Pawn on Default
● failure to redeem within 90 days,
pawnbroker may sell or dispose
any article taken in pawn
● pawner shall be notified of sale
Section 15: Public Auction
● sell only at public auction
● pawner shall publish a notice once in
at least 2 daily newspapers during
week of sale
● posting notices in public areas
Section 16: Closing and Removal
● ○ P2.5M (municipalities)
Lending Investor
● grants loans from its own capital
funds or from funds sourced from
not more than 19 persons
● min capital: PHP 1M (head office)
● allowed to have 100% foreign
ownership unless subject for
reciprocal rights
● more than 40% foreign ownership
requires a min capital of $200,000
● for individuals
Financing Companies
● for big companies
● engaged in forms of financing as
purchasing accounts receivable,
extending credit to retailers and
manufacturers, discounting
installment contracts, and granting
loans with goods as securities
● for big companies
Credit
● loan, mortgage, financial lease, deed
of trust or discount
Financial Leasing
● mode of extending credit through
a noncancelable lease contract
Purchase Discount
● difference between value of
receivable purchased and net
amount paid
RA 8556 (Financing Company Act of 1998)
Sec. 6: Form of Organization
● at least 40% Filipino ownership
● min paid-in capital:
○ P10M (Metro Manila and
other first class cities)
○ P5M (other cities)
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 ● no foreign national may be allowed
unless has Filipinos have reciprocal
rights
● 1 year to confer min capital if
operated before RA
Sec. 9: Rights and Powers
1. issue bonds and other capital
instruments subject to BSP
2. rediscount paper
3. participate in special credit
programs
4. provide foreign currency loans to
companies who earn foreign
currency by exports
Sec. 11: Parity Clause
● small/medium companies who lend
medium/long term credit shall enjoy
other rights granted by law
Sec. 14: Penalties
● P10k - P100k or imprisonment for
not more than 6 months or both for:
○ engage in business without
authority from SEC
○ hold out to be financing
companies
○ make use of firm name
containing financing, leasing,
investment
○ violate provisions of this act
○ report a document that is
false
○ overvalue securities
Letters of Credit
● operative document or a letter of
notification of a bank to one or more
of its correspondent bank, certifying
that the person or firm whose name
appears therein, is entitled to draw
on its credit up to a certain
maximum amount under expressed
terms and conditions
Parties involved in Letters of Credit
1. Importer/ Applicant/ Buyer
2. Issuing bank/ Opening bank/ Buyer’s
or importer’s bank
3. Exporter/ Beneficiary/ Seller
4. Advising or Notifying bank/
Reimbursing or Paying bank
5. Government Agencies and Other
related instrumentalities
○ Bureau of Customs
○ Society of General
Surveillance (SGS)
○ Shipping Lines
○ Airlines
○ Customs Broker
○ Banking Institutions, etc.
Import- Export Cycle
1. International contract between the
importer and exporter is signed
2. Importer applies for the opening of
LC
3. Importer’s bank opens the LC and
notifies its correspondent bank
4. Exporter’s bank will advise the
exporter that an LC was issued
5. Exporter starts manufacturing
6. Finished goods will be transported
7. Original documents are secured
from the shipping to be forwarded to
the exporter’s bank
8. Goods are transported and stored
in a warehouse while the exporter’s
bank simultaneously sends the
documents to the importer's bank
9. Importer’s bank reviews the
document and identify if there are
any major or minor discrepancies
10. Once payment is made, documents
are released to the importer by the
importer’s bank
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 11. Importer pays the remaining balance
of the duties and taxes
12. Goods will be released to the
importer
Usual charges of LCs
● Opening Commissions
● Cable or Postage
○ shipping
● Marginal Deposit
○ initial amount of money a
trader needs to put down
○ to reduce the risk of banks
● Import Duties/ Tariffs (import entry
declaration - IED)
○ tax collected on imports
● Transit Interest
○ document received will be
paid by bank
○ interest that is incurred on a
DC from the date of
negotiation to the date that
the bank receives
reimbursement
● Commitment Fees
○ compensate the lender for its
commitment to lend
● Swap Charges
○ interest rate swaps
○ differential between the two
currencies of the pair you
are trading
Communication Process
Society of Worldwide Interbank Financial
Telecommunication (SWIFT)
● network that enables financial
institutions to send and receive
information about financial
transactions in a secure and
reliable environment
● verified and by the through
signatures of authorized banks
officers
How do LCs and Non-LCs Travel
1. Postage
2. Cable or Tested Telex/ SWIFT
3. Authorized Signature
4. Test Keys or Codes
Points to Consider
● importers should secure approved
credit line from its bank
● accommodating bank should have a
framework agreement or
correspondent banking
relationship with the bank of the
exporter (simplify the transaction)
○ if not, locate reimbursing
bank to serve as a conduit
Important Features
● Confirmed
○ bank guarantee (importer’s
bank)
● Unconfirmed
○ no guarantee
○ credit risk is present
● Revocable
○ cancelled or withdrawn by
any parties without consent
of the other
● Irrevocable
○ only be cancelled or
withdrawn with the consent
of the contracting parties
Kinds of LC
1. Sight LC
○ must be settled upon “sight”
of the document
2. Usance LC
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 ○ settlement is based on the
actual Bill of Landing or
loading date
3. Deferred LC
○ settlement is via installment
basis
4. Domestic LC
○ both buyer and seller are
situated in the local market
5. Stand by LC
○ mode of performance
guarantee
○ if failure to perform, the bank
will pay and actual liability
will happen
○ contingent liability of the
bank
■ potential liability
that may occur
Related Transactions
Trust Receipt
● importer is allowed to take the
physical possession of the
imported merchandise but the legal
title or ownership of the goods are
retained by the bank
● Consignor-Consignee relationship
● if failure to pay, bank assume
physical possession and monetize it
○ bank will hand proceeds to
importer
● PD 115, violation of TR agreement
Bank Guarantee
● issued by the importer’s bank
● imported goods arrive prior to the
prescribed documents
● importer can have the goods
released in the absence of the
original documents
● bank issues a Ship SIde Bond or BG
Export Transaction
● exporters always want to get paid
upon delivery
● all documents have collated and
submitted to exporter’s bank, then
reviews documents before sending it
to importer’s bank
● all discrepancies are communicated
● if failed to report, documents will
be sent anyway
○ Negotiation
■ Bills sent for
Collection Export
■ Bills Purchase
○ Consideration
■ Discrepancies
■ Letter of Guarantee
Export Financing
Buyer’s Credit
● paying in advance for goods to be
delivered by the exporter
● advance payment
● dire need of commodities
Back-to-back Facility
● exporters open its own Import
Letter of Credit (ILC) to finance the
purchase of its raw materials to
manufacture goods
● collaterals: POs, SCs, CI, ILCs
Packing Credit Loan/ Pre-Shipment Facility
● exporter’s bank advances funds
to finance the manufacturing of the
product ordered by the imported
Post Shipment Facility/ Rediscounting
Facility
● commercial banks will do advance
payments to the exporter and
forward the document to BSP for
rediscounting purposes
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 ● pass on rate plus a minimal spread
allowed for conduit banks to
generate a reasonable income
Non-LC Transaction
Open Account / Direct Remittances
● made to the exporter prior to the
delivery of goods/ commodities
● practiced by companies or
individuals affiliated with each other
Document against Payment
● importer is obliged to pay the
exporter upon the sight of the
document
● in case of non-delivery/ discrepancy
in the delivery by the exporter,
importer’s bank is under no
obligation to reimburse
● sight and unconfirmed
Document against Acceptance
● importer’s bank releases the
documents to the importer against
his acceptance of liability to pay the
exporter upon maturity
● in case of default or delay of
payment on the importer, the bank
is not liable
● usance and unconfirmed
Credit Risk
● risk of loss resulting from the
borrower failing to make full and
timely payments of interest and/or
principal
Components of Credit Risk
● Default Risk
○ probability that a borrower
defaults
○ stated in %
● Loss Severity/ Loss Given Default
○ portion of the value
borrowed that an investor
losses
○ stated in $
Expected Loss (stated in %) = Default
Probability x Loss Given Default
Credit Related Risks
Spread Risk
● spread
○ difference between risk free
rate and corporate bond
yield
○ ↑ spread = ↑ premium
● affects credit risk
Credit Migration Risk
● Downgrade Risk
● risk that the bond issuer’s
creditworthiness deteriorates or
migrates lover
Market Liquidity Risk
● risk that the price at which investors
can actually transaction may differ
from the price indicated in the
market
● ↑ discount rate = ↑ spread
Capital Structure
● composition and distribution
across operating units of debt and
equity
Seniority Ranking
● priority of payment
● most senior or highest-ranking debt
having the first claim on the cash
flows and assets of the issuer
Seniority Ranking
1. First Lien Loan - Senior Seniority
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 2. Second Lien Loan - Secured
3. Senior Unsecured
4. Senior Subordinated
5. Subordinated
6. Junior Subordinated
Debt - P.E. - C.E.
Recovery Rates
● percentage of the total loan amount
that can be received from the
defaulted loan
● can vary widely by industry
● can vary depending on when they
occur in a credit card
● average
Recovery Rate = 1 - Loss Severity (%)
Notes:
● Priority of Claims: not always
absolute
● Creditors with a secured claim have
the right to the value of that
specific property before any
claim. If the value of the pledged
property is less than the amount of
the claim, then the difference
becomes a senior unsecured
claim
● Unsecured creditors have the right
to be paid before holders of equity
interest (common and preferred)
● Senior unsecured creditors take
priority over all subordinates
Factors to Use Credit Rating
1. Independent Assessment of Credit
Risk
2. Ease of Comparison across Bond
Issuers
3. Regulatory and Salutary Reliance
and Usage
4. Issuer Payment for Rating
5. Huge Growth of Debt Market
6. Development and Expansion of
Bond Portfolio and Accompanying
Bond Indexes
Investment Grade
● debt low in risk
Non-Investment Grade
● junk bonds
● bond is rated 'BB' or lower
Issuer Ratings (Overall Company)
1. Notching
○ rating adjusted methodology
from issuer rating (↑/↓)
2. Structural Subordination
○ debt is secured at the
subsidiary before parent
level
Issuance Rating: Specific Bond
Limitations and Risk
1. Credit Rating can change overtime
2. Credit Rating tend to lag the
market’s pricing of credit risk
3. Rating Agencies may make
mistakes
4. Some risks are difficult to capture
in credit rating
Credit Analysis VS. EA Analysis
1. Motivational Difference
○ shareholder wealth
maximization vs. debt
servicing
2. Exposure Difference
○ equity is more exposed in
the decline of value of
company
3. Focus Difference
○ equity = CFS and IS
○ credit = BS and CFS
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Top Down Approach
1. Macroeconomic Analysis
2. Industry Analysis
3. Company Analysis
C’s of Credit Analysis
1. Capacity
○ ability to service its debt
2. Collateral
○ assets supporting issuer’s
indebtedness
3. Covenant
○ terms and conditions of
lending agreements that the
issuer must comply with
4. Character
○ quality of management
Capacity
● Industry Analysis
○ Porter’s 5 Competitive
Forces
○ threat of new entrants
○ bargaining power of suppliers
○ bargaining power of buyers
○ threat of substitutes
○ rivalry among existing
competitors
● Industry Fundamentals
○ cyclical/ non-cyclical
○ growth prospects
○ published industry statistics
● Company Fundamentals
○ competitive position
■ market share
■ peer comparison
○ track record/ operating
history
■ performance overtime
○ management’s strategy and
execution
○ ratings and ratio analysis
■ Profitability and Cash
Flow
■ Leverage
■ Coverage
Profitability and Cash Flow
1. EBITDA (Earnings Before Interest,
Taxes, Amortization, and
Depreciation)
2. Funds from Operations (Net Income
from Continuing Operations plus
Non cash charges)
3. Free Cash Flow before Dividends
(FCF before Dividends)
4. Free Cash Flow after Dividends
(FCF before Dividends)
Leverage Ratios
1. Debt/Total Capital
2. Debt/EBITDA
3. FFD/Debt
4. F(Fatter Div/Debt)
Coverage Ratios
1. EBITDA/Interest Expense
2. EBIT/Interest Expense
Comments on Issuer Liquidity
1. Cash on Balance Sheet
2. Net Working Capital
3. Operating Cash Flow
4. Committed Bank Liens
5. Debt Coming Average and
Committed Capital Expenditures in
the next 1-2 years
Collateral
● more emphasized for companies
with lower credit ratings
● value and duality of asset
○ amount of goodwill in
balance sheet
● investing in business
○ amount of capital
expenditure relative to
depreciation
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 ● market based signal
○ market value is less than
Price impact of a change in Yield Spread
the book value
● estimated using duration and
convexity (TBD in S.A. 2)
Covenant
● found in bond prospects High Yield (Junk Bonds)
● specifies the issuer’s management Reasons why companies are rated as non-
obligated to do (affirmative/positive) investment grade:
and limited in doing 1. Highly Leveraged Capital Structure
(restrictive/negative) 2. Weak or Limited Operating History
● indenture 3. Limited or Negative Free Cash Flow
○ governing regulatory credit 4. Highly Cyclical Business
agreement and typically 5. Poor Management
referenced in prospectus 6. Risky Financial Policies
7. Lack of Scale and/or Competitive
Character Advantage
● soundness of management 8. Large off-balance sheet liabilities
strategy 9. Declining Industry
● management’s track record in
executing past strategies
● use of aggressive accounting
policies and/or tax strategies
● any history of fraud/malfeasance
● previous poor treatment of
bondholders

Yield on Corporate Bond = RRFR + INF +

MP + LP + CS

Yield Spread = LP + CS
Wherein:
RRFR = Real Risk Free Rate
INF = Inflation Rate
MP = Maturity Premium
LP = Liquidity Premium
CS = Credit Spread

Factors that affect credit spreads:

1. Credit Cycle
2. Broader Economic Conditions
3. Financial Market Performance
Overall (including equities)
4. Broker-dealer’s willingness to
provide sufficient capital for market
making
5. General Market Supply and Demand

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Special considerations in analyzing Junk
Bonds:
1. Liquidity and Cash Flow
○ Cash on B/S
○ Working Capital
○ Operating cash flow
○ Bank credit facilities
○ Equity issuance
○ Asset Sales
2. Financial Projections
3. Debt Structure
4. Corporate Structure
5. Covenant Analysis
○ Change of control put
(change in control)
○ Restricted payments (limiting
payouts to shareholders)
○ Limitations on liens and
additional indebtedness
(limitation on secured debt)
○ Restricted vs. unrestricted
subsidiaries (offering
guarantees to their holding
company
6. Equity-like approach to High-yield
Analysis (hybrid to equity and high
quality bonds) – Calculating
Enterprise Value
Sovereign Debt (Financing government
spending/operations)
Political and economic profile
1. Institutional effectiveness and
political risk
○ Successful management of
past political, economic,
and/or financial crises
○ Ability and willingness to
implement reforms to
address fiscal challenges
○ Predictable policy framework
○ Absence of challenges to
political institutions
○Checks and balances in the
system
○ Absence of corruption
○ Unbiased law enforcement
and respect for rule of law
and property rights
○ Independent/unfettered
media and sources of
economic data
2. Economic structure and growth
prospects
○ Income per capita (higher
income per capita = higher
support for debt)
○ Trend growth prospects
(productivity measure)
○ Sources and stability of
growth (stable, broad-based
growth and absence of
private sector credit
expansion)
○ Size of the public sector
relative to private sector
(smaller public sector = more
likely to enact necessary
changes)
○ Growth and age distribution
of the population (relatively
young and growing
population)
Flexibility and performance profile
1. External liquidity and international
investment position
○ Status of currency (with
reserve currency or actively
traded currency)
○ External liquidity (substantial
supply of foreign currency)
○ External debt (low foreign
debt vs. current account)
2. Fiscal performance, flexibility, and
tax burden
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 ○ Trend of government debt vs. ● unsecured bonds issued with full
GDP (stable or declining debt faith and credit of issuing non-
growth) sovereign government
○ Perceived willingness and
ability to increase revenue or Revenue Bonds
cut expenditures ● issued for specific project financing
○ General government interest
expense as part of revenue Risk and return: Higher for Revenue bonds
(<5% is good; >15% is poor)
○ Net general government debt
vs. GDP (% of debt to GDP)
○ Contingent liabilities from
financial sector, public
enterprises, and guarantees
(<30% is good; >80% is very
poor)
3. Monetary flexibility
○ Exchange rate regime: freely
floating allows maximum
effectiveness)
○ Credibility of monetary policy
(independent central bank
with clear
mandates/objectives, a track
record of low and stable
inflation and has the ability to
issue substantial long-term
debt)
○ Effectiveness of monetary
policy (well developed
banking system, active
money market and corporate
bond market, and greater
reliance on market-based
policy tools and less reliant
on blunt administrative tools)

Non-sovereign Government Debt

● issued by local government or
quasi government entities

General Obligation Bonds

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