Loan documentation. The credit memorandum, or credit memo, is the internal document needed to approve or renew a loan. The memo is presented to a commitments committee or a loan committee for approval. More than just a summary or collection of analysis and legal jargon, it tells the story of the entire loan. It also aids in monitoring a loan after a loan is made, expanding on covenants and pledges, and outlining the risks and mitigating factors for making a loan. This is important when parties have to come back to the table if covenants or pledges are broken. Lastly, it satisfies regulatory requirements. In the US, these would be bank examiners. The term sheet is the backbone of the credit memo. It describes in detail the structure of the loan. The structure of the loan should address all of the risks identified in the credit analysis, namely the default risk and the LGD or loss given default risk. If the bank has any existing exposure to the client, that should also be detailed. The remainder of the credit memo is a detailed narrative of the opportunities and risks associated with the credit. That story should include a description of how the loan came to discussion, as well as the importance of the loan, if any, to future transactions. While credit memos are detailed and in depth, they need to be concise while deciphering the business and financial analysis that were performed in the preparation. That would include ratios and debt capacity studies, downside analysis, et cetera. They should highlight trends, major occurrences, explain variances, and anticipate and answer questions in advance. Are there any exceptions being made to extend credit to the borrower? Relaxing a term that is typically enforced for a good reason, the risks should be clear, and if there are mitigating factors to those risks, those should be clear as well. Ultimately, a credit memo should justify the loan risk rating either given by the bank internally or externally by the credit rating agencies. The term sheet is the structure of the loan, and the point of structuring a loan is to mitigate risk. This includes knowing clearly to whom we are lending, and if there are any complexities in the corporate structure. Choosing the right kind of loan that matches capital to need and that has a repayment schedule that matches the expected future cash flows, understanding the purpose of the loan, and putting the proper protections in place to rank, secure, and guarantee the loan, plus all other protections that the situation warrants.
