CREDIT SCORING SYSTEMS IN SMES :
Credit scoring is an automated statistical method used to assess the risk of default of a credit
applicant. In recent years,banks have increasingly adopted a new technology called credit scoring for
small business lending. Credit scoring was introduced in the early 1990’s especially by large
banks in the United States. It was originally developed for consumer lending, where it has
greatly altered the way in which banks manage consumer credit portfolios.
Credit scoring helps in analyzing large amounts of historical data on borrowers to identifying
certain characteristics that predict the likelihood of the borrower defaulting on his/her loan
some time in the future. It is most commonly found, smes are very likely to not maintain proper financial data ,thus the banks focuses on the personal information. Credit scoring of the business entrepreneur focuses on the information like financial condition, prior payment history, public filings, industry comparative data, years in business, industry and sales volume is a good indicator of thefuture performance of a small business loan and has helped banks expand lending to SMEs.
Benefits of Credit Scoring are such as :
- It improves the management control as the management focuses on the level of risk of whole credit portfolio.
- It helps in lowering the cost of underwriting loans since it reduces the amount of human intervention needed, increases the speed of approval and also reduces the training time for new credit staff.
- increased speed of loan decisions as well as the number of loans that the lender can underwrite while holding the loss rate constant, thus increasing revenues.
- improved accuracy, consistency and objectivity of decisions since the system evolves .
- improves over time; and
- automation of procedures.
Disadvantages of Credit scoring are :
- credit scoring is based on the analysis of historical data. In many cases, e.g. before recession, forecasts based on past performance can be misleading. it can lead to unfair lending practices and have an adverse effect on some groups such as minorities and/or women who do not fit the established “risk” profile; and
- it is an impersonal tool that can substantially reduce the relationship between lenders and
- small businesses; less interaction between banks and SMEs can be detrimental for both
Establishing automated credit scoring systems can also lead to a number of usefulbyproducts
for the bank. The information generated by the system can be used as a tool for
segmenting clients and improving the efficiency of marketing financial products to potential
clients e.g. pre-processed bank loans. Further, credit scoring can be used for pricing loans
according to the level of risk. It identifies potential customers for other services and helps to
target prospective borrowers