Corporate credit analysis

A lender's question is narrower than an investor's: will this borrower pay interest and repay principal on time, even if things go wrong? Upside matters little to a lender; the downside matters a great deal. Credit analysts therefore look hard at cash flow, leverage and what happens under stress.

In this lesson Rawdah Home Retail Co. — the fictional retailer from the Financial Statement Analysis track — asks Najd Commercial Bank (also fictional) for a SAR 120m five-year term loan to fund new stores. You'll assess the request with Najd's illustrative credit policy. The thresholds are educational examples, not any bank's rules.

The 5 Cs organise the judgement:

1. Character — the borrower's track record, management quality, governance and repayment history.
2. Capacity — the ability to service debt from cash flow: EBITDA, free cash flow, interest cover, leverage.
3. Capital — the equity cushion beneath the lender: gearing (debt ÷ equity).
4. Collateral — security and guarantees that reduce the loss if default happens (they lower LGD, not PD).
5. Conditions — the industry, the economy, the purpose and the loan's terms.

Capacity comes first: collateral is a fallback, not a source of repayment.

From metrics to a decision. A credit officer works in a fixed order: understand the business and the purpose of the loan; calculate the historical metrics; restate them pro forma; stress them; then decide whether to approve, decline or restructure. Restructuring is the most common answer to a borderline case — a smaller amount, amortization matched to cash flow, financial covenants, or security that lowers LGD.

Headroom is a useful way to read the pro forma numbers. At 387.5 of pro forma net debt, Rawdah's leverage would reach Najd's illustrative 3.0x limit if EBITDA fell to 387.5 ÷ 3.0 = 129.2, a decline of 31.0% from FY2025. Whether that cushion is comfortable depends on how volatile a home retailer's earnings are — which is the "conditions" judgement no ratio makes for you. The next lesson turns this kind of assessment into numbers a bank can provision and price: probability of default, loss given default and exposure.