How Banks Can Create Good Borrowers

Khandaker Ataur Rahman

One of the main functions of a bank is to provide loans. A genuine entrepreneur or borrower is an important business partner for a bank. But does a bank’s responsibility end after providing the loan? In the conventional banking system, we generally think that the bank will provide the loan, the borrower will use the money for business, and repay the instalments and interest on time. Once the loan is recovered, one phase of the relationship comes to an end. But banking experience teaches us another lesson.

A good borrower is not just good for a bank; he is a valuable asset for the bank. Therefore, an important question is whether the responsibility of becoming a good borrower lies only with the borrower. Or does the bank also have a role in developing the borrower into a good one? In my view, the primary responsibility certainly lies with the borrower. However, a responsible bank also has an important role to play here.

Giving Loans Is Easy, Building the Ability to Use Them Is Difficult

A bank can approve a loan for a customer. But ultimately, the success of the loan depends on how efficiently the customer or borrower uses the money. Suppose an entrepreneur receives a loan of Tk 100 million from a bank.

If he uses the loan without understanding the actual needs of the business, its cash flow and repayment capacity, the loan may eventually become a burden for him. On the other hand, if the same loan is used with proper planning, efficient management and financial discipline, it can become a source of business expansion, employment and economic growth. In other words, the ability to use a loan efficiently is far more important than the size of the loan.

This is where the role of banks in creating good borrowers cannot be denied. Good borrowers are not necessarily born good. In banking, we often talk about “good borrowers” and “bad borrowers”. But is a person always born a good borrower? Many entrepreneurs have a good understanding of business but are not equally skilled in financial management. An entrepreneur may be good at production but weak in cash-flow management.

Someone may understand marketing very well but may not understand banking rules and procedures. Someone may know how to expand a business but may not properly understand the difference between borrowed money and their own capital. Many of them can become better entrepreneurs and better borrowers if they receive training, advice and timely banking guidance.

Therefore, if banks can move beyond being merely “lenders” and, in many cases, become “financial partners”, it will benefit entrepreneurs while also reducing the potential risks faced by banks.

Pre-Loan Orientation or Training Can Reduce Credit Risk

Before providing a loan, a borrower can be given an understanding of some basic issues, such as: What is the purpose of the loan? Which funds are for working capital and which are for capital expenditure? Why is cash flow important? Why is it necessary to keep business money and personal money separate? How should cash-flow planning be done for instalment payments? What risks can arise if loan funds are used for other purposes? When should the borrower contact the bank if a problem arises?

These issues may seem very basic to some entrepreneurs. But a large number of small and medium entrepreneurs start their businesses without any formal training in financial management. As a result, weaknesses in financial management may put their businesses at risk without their even realising it.

For this reason, banks can reduce many future risks by introducing a short borrower orientation programme before disbursing loans. A common mistake among borrowers is to erase the boundary between business money and personal money. When business cash flow is good, there is often a tendency among borrowers to withdraw money to buy a personal house, car, land or other assets. Initially, this may not create any problem.

But as soon as the business faces a downturn, it becomes clear where the business’s actual working capital has been spent. If banks make entrepreneurs aware of these issues both when providing loans and during subsequent loan management, many potential problems can be prevented at an early stage. Using loan funds with proper discipline is the first sign of a good borrower.

Monitoring Is Part of Responsible Lending

Approving a loan and simply closing the file is not enough. Banks should monitor the business activities of borrowers according to the level of risk involved. If banks keep a timely watch on whether sales are declining, whether there are cash-flow problems, whether excessive borrowing is taking place outside the bank, and whether loan funds are being used for their intended purposes, effective action can be taken before a problem becomes serious.

The purpose of monitoring should certainly not be to harass the borrower, but to help them. The real purpose of monitoring should be to identify a problem when it is still small. A small problem can be solved much more easily, while a problem that has become serious is often much more difficult to resolve.

Many borrowers avoid the bank when problems begin in their businesses. They do not answer calls. They do not want to provide information. They do not want to meet bank officials. They may think that informing the bank about the problem will lead to greater pressure from the bank. But in many cases, the opposite may happen. If a borrower informs the bank about the problem on time, the bank can analyse the situation and seek a possible solution within the law and relevant policies.

However, when a problem is hidden and comes to light after a long period, the scope for finding a solution becomes much narrower. Therefore, an important characteristic of a good borrower is to communicate with the bank when a problem arises instead of hiding it or running away, and to cooperate with the banker in finding a solution.

Banks Must Also Examine Their Own Practices

Before asking borrowers to become good borrowers, banks must also ask themselves some questions. Did we select the right borrower? Did we understand the borrower’s business sufficiently before providing the loan? Did we verify the actual purpose of the loan? Did we properly analyse the borrower’s cash flow? Did we rely too heavily on collateral?

Did pressure to meet business targets influence credit judgment? Did personal relationships, influence or recommendations play any role in the decision? Because it is much more difficult to turn an incorrectly selected borrower into a good borrower later. Therefore, the first step in creating good borrowers is selecting the right borrowers.

Assistance Is Not the Same as Control

Does this mean that banks should run the businesses of borrowers or entrepreneurs? Certainly not. It is not the bank’s job to manage the business of a borrower or entrepreneur. The entrepreneur has the right to maintain business independence and make their own decisions.

However, banks can make entrepreneurs aware of financial discipline, risk management and proper use of loan funds through training. There is a fine line here. Providing assistance and exercising control are not the same thing. Banks must also understand this boundary.

Who Benefits When Good Borrowers Are Created?

Creating good borrowers does not benefit only banks. A good borrower means lower credit risk for a bank, fewer non-performing loans, better recovery and a more stable loan portfolio. For the borrower, it means less financial pressure, a better credit history, easier access to financing in the future and greater opportunities for business expansion.

For the economy, it means higher production, more employment, greater investment and a stronger financial system. In other words, creating good borrowers strengthens not only the banking system but also the economy.

What Can Be Done?

Our banks can take several new initiatives in loan management.

First, they can introduce short Financial Literacy and Borrower Orientation programmes for new borrowers.
Second, regular workshops can be arranged for SME entrepreneurs on cash-flow management, accounting and financial discipline.
Third, risk-based monitoring can be made more effective after loan approval.
Fourth, an early warning and counselling system can be developed for borrowers who are facing problems but still have business potential.
Fifth, borrowers should be made aware of responsible financial behaviour throughout the entire loan lifecycle, not only at the time of recovery.
Sixth, bankers should also receive more practical training in borrower relationship management, credit judgment and ethical banking.

It goes without saying that creating good borrowers also requires good bankers.

Author: Former Managing Director of Palli Sanchay Bank, former Deputy Managing Director of Rupali Bank PLC, and former General Manager of Janata Bank PLC.