Five C’S Of Credit (In A COVID World), Part 2

Posted on March 11, 2021 Published by

This month is the second in a two-part series reflecting on the Five C’S Of Credit (In A COVID World). We discuss what changes may be appropriate in the application of our traditional Five C’s of credit in the risk rating review process for 2020 financial statements given the significant impacts of the COVID pandemic. Last month we looked at Character and Condition (Balance Sheet). This month we will consider the final three: Collateral, Cash Flow, and Capital (Financial Condition). As suggested last month, it is not that the rules have necessarily changed. Perhaps, though, the relative concern and focus may be adjusted as we review 2020 financial performance.


It is likely that asset values will have been negatively impacted by the pandemic. As discussed in Condition last month, accounts receivable may not be as collectible. Income-producing real estate may be seeing increased vacancies. And/or increased requests to renegotiate lower lease payments. Multifamily housing may be experiencing higher delinquencies.  Tenants are using up any financial reserves, lack of government relief payments, and/or supplemental unemployment.

Equipment assets may also see a decline in value in the “used market” as lease rates drop. Unsold new equipment inventories grow, as well. For borrowers where it appears more likely that the lender will be relying on the secondary source of repayment, updated appraisals would be appropriate.

Cash Flow

While one could write a complete treatise on the COVID impact on business cash flow, we will not. However, in the past, risk rating analysis and annual reviews have focused almost exclusively on historical performance. This will still be a focus for 2020. However, it will be of particular importance to review what happened in the past. What will the future likely bring? This should include a review of a borrower’s sales by customer over the past two years and an analysis of industry concentrations.

Are there industries that form a significant concentration that are going to take a long time to recover? Industries such as hospitality? Are there ongoing governmental restrictions on how the business operates, and how long is that likely to continue? Is it an industry likely to be affected by future government regulation and/or executive orders? Is it an industry segment that is sensitive to consumer spending or requires major capital investment on a routine basis? All of these considerations point to the need for quality projections for the coming year in more detail (at least quarterly) than may have been required in the past.

Because some potential business impacts were avoided due to government loan or other support programs, lenders need to be cautious about how they treat any governmental loan support/forgiveness or other program in the cash flow, and to the extent possible, prepare a second cash flow that excludes the impact of these programs. Focus needs to be on reliable, customer-generated cash flow and not governmental support.

Conditions (Economic)

What is there to say about this other than, “Who knows?” I am optimistic about the ability of our private sector to adapt and make it through difficult economic times as it has in the past. However, it is much harder to navigate in waters that are being driven by political winds. Accordingly, as lenders and credit professionals, we need to listen to our customers and clients. They likely know more than we do and, if we believe in their Character and use an appropriate lens of common sense, we can work through this time together.

Five C’S Of Credit (In A COVID World)

The Five C’s remain fundamental to our risk rating analysis. However, I can see a couple of scenarios that may come into play. First, there may be a temptation on the part of lenders to use their particular risk rating model. They could say that what the model calculates for the risk rating is what it is. However, there is a high probability that poor risk rating scores due to COVID-related impact may result in too many downgrades. This may lead some institutions to broadly adjust risk ratings with a “COVID excuse” (i.e., that notwithstanding COVID impacts, the risk rating would have been X).

This could be extremely problematic as X (whatever the risk would be without COVD) is not particularly relevant because COVID-19 did happen. The current operating environment is not free of continued COVID-19 impacts. A critical evaluation of the current trends for a borrower and a clear-eyed analysis of projected performance against the realities of a lingering COVID hangover will be essential to accurately assessing the inherent risk in each relationship. Five C’S Of Credit (In A COVID World) will definitely be a part of the equation and we hope this series has helped you consider what may be appropriate.


Richard Rudolph is Senior Consultant at Enlighten Financial, a specialized consulting firm that focuses on loan review and risk management services to community banks and credit unions. Enlighten Financial has made it our business to shed light on the complex financial landscape. We lead clients in the right direction. We work with financial institutions and other providers to mitigate risk. To talk to Rick directly, please call: 920.445.8133.

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