Due Deligency Gideline

Development Bank of Ethiopia
Loan Process Guidelines
1. Due Diligence Assessment Guidelines
2. Project Appraisal Guidelines
3. Regulation of the Loan Approval Team
4. Pre and Post Credit Risk Measurement/Rating Criteria
5. Procedure for the Separate and accelerated Supervision

of Rescheduled Loans
6. Additional Loan Appraisal Guidelines
7. Procedure for the Analysis of Defaulted Loans

March 2008
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Table of Contents
Page
1. Due Diligence Assessment Guidelines 2 - 21
2. Project Appraisal Guidelines 22 - 56
3. Regulation of the Loan Approval Team 57 - 67
4. Pre and Post Credit Risk Measurement/Rating Criteria 68 - 89
5. Procedure for the Separate and accelerated Supervision

of Rescheduled Loans 90 - 100
6. Additional Loan Appraisal Guidelines 101 - 110
7. Procedure for the Analysis of Defaulted Loans 111 - 142
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Due Diligence Assessment Guidelines
March,
2008
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1. Introduction
1.1. Definition
Due Diligence is an examination by investment banks or company’s
management about operations, financial condition, competitive position,
performance, business objectives and plan, the labor force, supplier, its
customers and the sector of its business of their customers (business firms).
Another common definition of due diligence is also known as due care, meaning
the effort made by an ordinarily prudent or reasonable party to avoid harm to
another party or himself.
1.2. Objective of Due diligence
In many ways, a business is like an individual, it has a past, a culture and

interaction with many others each day. But like some people, what you see may
not represent what that business is really all about. Many businesses have
hidden liabilities and hidden histories or illicit behavior. Therefore, knowledge
and experience in business background investigation of the client is the crucial
factor in staying ahead of the competition, meaning what you don’t know can hurt
you more.
Due to failure to make proper due diligence more and more people are forced to
facilitating a business deal end-up in court over.
There are many reasons for conducting due diligence, some of these are:
 Confirmation that the business is what it appears to be in order to make the
purchase decision, to establish credit relation or considering a merger.
 Identify potential “deal killer” defects in the target and avoid a bad business
transaction.
 Gain information that will be useful for valuing assets, defining
representations and warrants, and /or negotiating price concessions.
 Verification that the transaction complies with investment or acquisition
criteria
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1.3. Focus areas of Due diligence
Searching for undisclosed litigation or regulatory problem verifying

transactions and terms with vendors, interviewing former employees about
the true condition of the company and the roles of key staff in the
business, verifying receivables are from non-related and legitimate
sources, capable and willing to make payment and verifying ownership of
property, plant and equipments.
2. Customers Due diligence for Banks

2.1. General Remarks
Supervisors around the world are increasingly recognizing the importance of

ensuring that their banks have adequate controls and procedures in place so that
they have to know the customers with whom they are dealing. Therefore, due
diligence on new and existing customers is a key part of these controls. Without
this due diligence, banks can become subject to reputation, operational, legal
and concentration risks, which can result in significant financial cost. Such
as withdrawal of funds by depositors, the inter-bank facilities termination, claims
against the bank, investigation costs, asset seizures & freezers, and loan losses.
In reviewing the findings of an internal survey cross-border banking in 1999, the

Basel Committee identified deficiencies in a large number of countries know-
your-customer (KYC) policies for banks. When countries were judged from a
supervisory perspective, KYC policies in some countries have significant
gaps and in others they are non-existent. Even among countries with well-
developed financial markets, the extent of KYC robustness varies.
Consequently, the Basel Committee asked the working group on cross-border
banking (Group of Banking Supervisors) to examine the KYC procedures
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currently in place and to draw up recommended standards applicable to
Banks in all countries.
Following a review of the comments received, the working group has revised the
paper and Basel Committee is now distributing it worldwide in the expectation
that the KYC framework presented here will become the benchmark for
supervisors to establish national practices and for banks to design their own
programs.
KYC is most closely associated with the fight against money-laundering at

beginning, but lately the Committee’s interested to wider it to prudential
perspective. Sound KYC policies and procedures are critical in protecting
the safety and soundness of Banks and the integrity of banking systems.
Sound KYC procedures must be seen as a critical element in the effective
management of banking risks.
KYC require banks to formulate a customer acceptance policy and a tiered

customer identification program that involves more extensive due diligence by
going far beyond safeguarding simple account opening and record-keeping.
The Basel Committee interests in sound KYC standards originates from its
concerns for market integrity and has been heightened by the direct and indirect
losses incurred by banks due to their lack of diligence in applying appropriate
procedures. These losses could probably have been avoided and damage to the
banks reputation significantly diminished in the banks that had maintained
effective KYC programs. The KYC standards may need to be supplemented and
/ or strengthened by additional measures tailored to the risks of particular
institutions and risks in the banking system of individual countries.
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2.2. Importance of KYC standards
Sound KYC procedures have particular relevance to the safety and soundness of
banks, in that:
 They help to protect banks from becoming a vehicle for or a victim
of financial crime and suffering consequential reputation damage.
 They constitute an essential part of sound risk management by
providing the basis for identifying, limiting and controlling risk
exposures in assets and liabilities.
The absence of KYC standards can subject banks to serious customer and
counterparty risks, especially reputation, operational, legal and
concentration risks. Any of these risks can result in significant financial cost to
banks and divert considerable management time and energy to resolving
problems that arise.
1. Reputation Risk
Reputation risk is defined as the potential that adverse publicity regarding a bank’s
business practices and associations, whether accurate or not, will cause a loss of
confidence in the integrity of the institution. Banks are especially vulnerable to
reputation risk because they can so easily become a vehicle for or a victim of illegal
activities perpetrated (committed) by their customers.
2. Operational risk
Operational risk can be defined as the risk of direct or indirect loss resulting from
inadequate internal processes, people and systems, or from external events. Most
operational risk in the KYC context relates to weaknesses in the implementation of
banks programs, ineffective control procedures and failure to practice due diligence.
A public perception that a bank is not able to manage its operational risk effectively
can adversely affect the business of the bank.
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3. Legal Risk
Legal risk is the possibility that lawsuits, adverse judgments or contracts that turn out
to be unenforceable can disrupt or adversely affect the operations of a bank. Banks
may become subject to lawsuits resulting from the failure to observe mandatory KYC
standards or from the failure to practice due diligence. Banks will be unable to
protect themselves effectively from such legal risks if they do not engage in due
diligence, in identifying their customers and understanding their businesses.
4. Concentration Risk
Concentration risk mostly applies on the assets side of the balance sheet and it is
discussed from both credit side and liability side.
On the credit side, concentration risk is related to bank’s exposure to single borrower
or groups of related borrowers. As a common practice, supervisors not only require
banks to have information systems to identify credit concentration but also set
prudential limits to restrict banks’ exposures to single borrower or groups of related
borrowers. Without knowing precisely who the customers are, and their relationship
with other customers, it will not be possible for a bank to measure its concentration
risk.
On the liabilities side, concentration risk is closely associated with funding risk,
particularly the risk of early and sudden withdrawal of funds by large depositors, with
potentially damaging consequence for the bank’s liquidity. Analyzing deposit
concentrations requires banks to understand the characteristics of their depositors,
including not only their identities but also the extent to which their actions may be
linked with those of other depositors. Therefore, it is essential for managers in small
banks not only to know the depositors but also needs to maintain a close
relationship with large depositors, or they will run the risk of losing their funds at
critical times.
In general, it is important to know these risks are interrelated.
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2.3 Essential Elements of KYC Standards
All banks should be required to have in place adequate policies, practices and
procedures that promote high ethical and professional standards and prevent the
bank from being used, intentionally or unintentionally, by criminal elements.
Therefore, the banks have to include the following elements when they design
KYC programs.
1. Customer acceptance policy
2. Customer identification
3. On-going monitoring of high risk accounts or loans
4. Risk management
From above mentioned elements, the first two are focused for the title under
discussion.
1. Customer Acceptance Policy

Banks should develop clear customer acceptance policies and
procedures, including a description of the types of customer that are likely
to pose a higher than average risk to a bank.
 These policies should include factors such as:
- Customers’ background
- Country of origin Public position
- Linked accounts
- Business activities.
 Banks should develop graduated customer acceptance
policies and procedures that require more extensive due
diligence for higher risk customers. But, it is important to
take care of that the customer acceptance policy is not so
restrictive that to a denial of access by the general public to
banking services.
2. Customer Identification
Banks should establish a systematic procedure for identifying new
customers and should not establish a banking relationship until the identity
of a new customer is satisfactorily verified. Special attention should be
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exercised in the case of non-resident customers and in no case should a
bank short circuit identity procedure just because the new customer is
unable to present himself for interview. The bank should always ask itself
why the customer has chosen to establish relation in a foreign jurisdiction.
2.1. General Identification Requirements

Banks need to obtain all information necessary to establish, to their full
satisfaction, the identity of each new customer and the purpose and
intended nature of the business relationship. Banks should never
agree to open an account or conduct credit relationship with a
customer who insists anonymity or who gives a fictitious name.
2.2. Specific Identification Issues

There are a number of more detailed issues relating to customer
identification which need to be addressed. Some of these are
currently under consideration by the FATF1
1. FATF is “Financial Action Task Force “. It is inter governmental body

which develops and promotes policies, both nationally and
internationally, to combat money laundering.
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1. Trust & Nominee Accounts / Clients
Trust & nominee accounts or presentation as clients can be used to circumvent
(avoid) customer identification procedures of the banks. It may be legitimate under
certain circumstances to provide an extra layer of security to protect the
confidentiality of legitimate private customers.
So, it is essential that the true relationship is understood. Banks should establish
procedure to identify whether the customer is taking the name of another customer,
acting as a “front” or acting on behalf of another person as trustee, nominee or other
intermediary. If so, a necessary and satisfactory evidence of the identity of an
intermediary, and of the persons upon whose behalf they are acting, as well as
details of the nature of the trust or other arrangements should be presented.
2. Corporate Vehicles
Banks need to be vigilant (careful) in preventing corporate business entities from
being used by natural persons as a method of operating with anonymous
name/account. Therefore, in the case of companies, the banks have to know or
identify the beneficial owners, structure of the company, the source of funds and
those who have control over the fund.
3. Introduced Business
The time consuming of identification process, there is a natural desire to limit any
inconvenience for new customers.
In some countries, it has therefore become customary for banks to rely on the
procedures undertaken by other banks or introducers when a business is being
referred. Relying on due diligence conducted by an introducer, however
reputable, does not in any way remove the ultimate responsibility of the
recipient Bank to know its customers and their business. The ultimate
responsibility for knowing customers always lies with the bank. Therefore, the
Basel Committee recommends that banks that use introducers should carefully
assess whether the introducers are “fit and proper” using the following criteria.
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 The customer due diligence procedures of the introducer should be as
rigorous as those which the bank would have conducted itself for the
customer.
 The bank must reach agreement with the introducer that it will be
permitted to verify the due diligence undertaken by the introducer at
any stage.
 All relevant identification data and other documentation pertaining to
the customer’s identity should be immediately submitted by the
introducer to the bank.
4. Politically Exposed Persons

Business relationships with individuals holding important public positions and with
persons or companies clearly related to them may expose a bank to significant
reputation and / or legal risks. Such politically exposed persons (PEPs) are
individuals who are or have been entrusted with prominent public functions, including
heads of state or of government, senior politicians, judicial or military officials, senior
executives of publicly owned corporations and important political party officials.
In countries where corruption is widespread, there is a possibility to abuse their

public powers for their own illicit enrichment through the receipt of bribes,
embezzlement, etc by such persons. So, accepting and working with these corrupt
PEP will severely damage the bank’s own reputation and can undermine public
confidence in the ethical standards of an entire financial centre, since such cases
usually receive extensive media attention and strong political reaction, even if the
illegal origin of the assets is often difficult to prove. In addition, the bank may be
subject to costly information requests and seizure orders from law enforcement or
judicial authorities. Under certain circumstances, the bank and / or its officers and
employees themselves can be exposed to charges of money laundering. Thus,
there is a compelling need for a bank considering a relationship with a person
whom it suspects of being a PEP to identify that person fully, as well as people
and companies that are clearly related to him/her.
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Bank should gather sufficient information from a new customer and check publicly
available information, in order to establish whether or not the customer is a PEP. If
the person is identified as PEP, banks should investigate the source of funds before
accepting a PEP. It is recommendable to accept or not the PEP as the bank
customer to be the decision of senior management.
III. Due diligence Guideline of DBE
In long years of project financing operation of the Bank, DBE more or loss had
exercised identifying of the client, especially in the back ground part of the
feasibility study. The identification of the client up to November 2005 mainly
included the educational background, business performance, experience and
managerial capability of the client. However, these back ground studies have not
contributed as such more in protecting the Bank from fraudulent customers and
from immersing in high financial costs because of the depth of the study, lacking of
hard facts and weak accountability of the personals. To overcome these
drawbacks, since November 2005 the Bank has commenced due diligence
assessment and established a responsible and accountable functional work unit for
this purpose, whoever it is at its infant stage as it is evaluated from KYC standards.
The existing due diligence assessment of DBE has the following focus areas.
1. Name and Address of the Promoter and the Project
Under this part the officer states the legal name of the promoter and the project
and the address of the promoter and the project. The address of the promoter
and the project should clearly indicate the where about ness of the promoter
and communicating means whenever the client is required. The communicating
means may include knowing of the exact location of the promoters’ office and
project location, telephone number of office and cell phone, postal address, fax
number, and e-mail address. Ensuring of these addresses exactly reduce
fraudulent customers by some number since such persons are not willing to
disclose their real address and location. Besides it’s important for due diligence,
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knowing the address of the promoter as well as the project is equally important
for monitoring project progress and follow-up.
2. Legal Status of the Promoter (Person or Company)
Legal status includes the legal form of the company (Sole proprietorship,
company, NGO, etc.), date of establishment, article and memorandum of
association for companies, marital status (for Sole proprietorship),
Investment license, Trade license & status of the project (whether it is new
or existing).
The need to know the form of the business emanate from the following
issues.
 To determine whether the applicant is in the financing categories of the
Bank or not from the perspective of legal formation of business.
 To request legally relevant documents for the form of organization.
 To decide the type and the strength of due diligence executed.
The importance of establishment date is seen from the following angles.

 To see all the legal documents are renewed as the government regulation.
 To identify the rules and regulation that concerns them or not, and to
confirm whether the business is established as per rules and regulation of
the country.
The need for Article & Memorandum of Association:

 It helps to know the members of the company.
 It helps to know the business sectors in which the company is engaged.
 It helps to know the establishment objective of the company.
 It helps to know the power, responsibilities and duties of the general
manager/CEO.
 It shows the amount and number of shares that each share holder has in
the company.
 To confirm the capacity of the company capital to cover the equity
contribution.
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 To know the organizational structure of the company,
 To know the liability of members.
The Importance of Knowing Marital Status (Sole proprietorship)

 To protect the Bank from lawsuit by other spouse on common property.
 To avoid seizer of the project due to dispute of the couples.
 To attract the family attention to project success or to create belongingness
of the project among family members.
The Importance of Investment License
 To confirm foreign investors are permitted to invest in the country and to
know its validity.
 To accept the tax free pro-forma invoice of the applicant in feasibility study.
 To determine stump duty payment of the applicant, i.e. Birr 5 for those
applicants having investment license.
 To proceed on the new loan applicants request considering the investment
license as trade license.
Importance of Trade License

 To know in which business the applicant is engaged.
 To confirm the business is legally perform its activity.
 To know the capital of the applicant and to cross check with equity
contribution.
The Importance of Principal Registration License

 To know the operating area of the project.
 It helps to register the business.
 To check whether the company/ individual is registered to be engaged in
business.
The Need for Title Dead and Site Plan of the Land holding
 To confirm the ownership of the land holding.
 To define the exact location of the project.
 To know the size of land holding.
 To register the collateral as pledge.
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The need for Construction permit and Authenticated Plan
 To avoid risk from an illegal construction.
 To be safe from losing compensation during the government needs the area
for other purpose.
The Need for Title Dead of the Vehicle

 To confirm the ownership
 To register the vehicle
Status of the Project (Existing or New)

 To identify whether the business firm carried out its legal commitment, such
as tax and other obligations.
 To check the past performance of the business and to determine whether to
finance the project or not.
 To decide how to accommodate the application of the promoter (as new or
expansion) and apply thereby to process the loan application as per the
credit policy of the Bank.
3. Track Recording of the Share Holder
This part identifies the members of the given company are natural or legal
persons. As it is discussed earlier criminal persons or defaulters can approach
the Bank by using the company as anonymous name. Identifying of each
member is the crucial issue when dealing with company. Once the members
are identified and trusted, the next step should be to make effort to know the
share source of the members in order to protect the Bank from being the victim
of money laundering. These issues can be confirmed by cross checking the ID
of the members with addresses stipulated in memorandum of association and
requesting financial statement from their account holding banks. The other
point need due attention is evaluation of their personal business performance if
they have any. Because, the bankrupted individual can approach the Bank with
the mask of company and may create the same problem. The performance of
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the respective members, therefore, should be evaluated by requesting the
company members to offer audited report by licensed auditor.
4. Organization and Management Evaluation
The human element takes the greater share in project success or failure.
Organization and Management is the main element due diligence has to focus
on. Under this the officer is expected to make a profound assessment about
organization structure of the business, the competency & characteristic of
the management team and the man power requirement of the business.
Organizational Structure:
In consideration to the form of business (Sole proprietorship, plc, sc, etc.), and
the size and type of the business, it is important to discuss the appropriateness
of the organization structure in place.
Competency & Characteristic of the Management Team:

Here the relevance of educational background, experience, qualification of
each management team member to the business has to be discussed and
appropriate recommendation should be forwarded if there is any gap.
Moreover, the personal characteristic of the personals has to be also the
element of management identification. One can identify these things by
requesting CV of each team member with relevant document and by collecting
personal and business reference from his/her immediate bosses he/she worked
with or managers of business organization he/his interacted.
Availability of Manpower:
The existence of both skilled and unskilled labor as per the requirement of the
business also has to be checked. The wage rate and salary scale of the project
proposal are also evaluated as per the prevailing market situation.
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5. Credit Relation Checking
This part looks the credit history of both the business and its owners.
Identification of the credit performance of the business and its owner protects
the Bank from being accessed by defaulters or non-credit worthy clients.
Specially, this day plcs are wrongly used as mask to non credit worthy persons,
therefore, checking each of the share holders in the company is very important.
Under identification process the following points should have to get due
attention.
 Type of the business by which he/she secured the loan.
 The type of the loan facility.
 The status and the position of the loan.
 History of credit performance.
 Collateral offered for previous creditor.
 All information listed above can be obtained by requesting his/her previous
creditor and credit information center. One thing here to note is not to forget
that checking of credit relation with our Bank.
6. Financial Requirement of Investment

The major task officer has during checking of business plan is that to identify
and evaluate the relevance of each investment items for the intended project
and whether the value of each investment item is supported with three genuine
and updated pro-forma invoices from different suppliers or other technical
documents like bill of quantity or purchase documents, etc. Here the critical
point is how to confirm the genuineness of the document. This can be possible
by communicating with the supplier, by authenticating the invoices and cross
checking with Research Department findings or proceeding to evaluate by the
Bank Engineering Department.
7. Technical Aspects
Technical documents that are important for engineering estimation and loan
appraisal are also expected to be collected at this stage.
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Engineering documents and their importance:
 Blue Print (Architectural, Structural, Electrical, Sanitary, soil test,
structural analysis for beg projects) helps to know the size, shape and
design of the construction, and to determine material requirement of
the construction. It is important to review construction units in line with
the project nature.
 Take off sheet reduces the time taken to calculate the material
requirement of the construction and over looking of some construction
parts when trying to calculate from blue print.
 Bill of quantity tells the cost of building by giving additional price
information.
Machinery and Equipment:
 All three pro-forma invoices should have the same specification and
detail information about payment arrangement, value date, delivery
arrangement(CIF, FOB), turnkey agreement if any, capacity etc.
 Every Procurements above $ 1,000,000 requires international bid
conducted documents.
 Indicating the selected machinery and the criteria for selection
(capacity, price, technology etc.)
Other Sensitive Issues

 Conflict of interest should be checked, meaning the relation of the
supplier and the loanee should be identified to avoid the over invoicing
of the pro-forma to minimize their equity contribution and from using
the project as market may be low quality product of their business.
 Confirmation of the availability of required utilities (water, telephone,
power, accessibility, etc) in the project area.
 Row material availability and their location advantage
 Environmental issues should be checked to reduce the risk from seizer of
the project in related to environmental protection.
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8. Identified Risk Areas
Based on the above assessment the officer has to comment on the
following risk issues.
Management
 Experience
 Availability of skilled labor
 Others
Marketing strategy
 Pricing of product
 Quality of product
 Destination market
 Market size & preference
 Delivery time issues
Technical
 Technology (choice)
 Technology require skill
 Others
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Reference
ASG, “Due Diligence & Business Background Check”, Internet.
Basel Committee, “Directive on Customer Due Diligence for Bank”, Internet
Basel Committee on Banking supervision, “Customer due diligence for Banks”,
Internet
Development Bank of Ethiopia, “Due diligence Format”, The Bank policy.
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DEVELOPMENT BANK OF ETHIOPIA
PROJECT APPRAISAL GUIDELINES
BUSINESS PROCESS REENGINEERING

INTEGRATION TEAM
March, 2008
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I. Introduction and Objective
1.1. Introduction
Appraisal is the comprehensive and systematic assessment of all aspects of a

proposed project. After a project has been prepared, it is generally appropriate
for a critical review or an independent appraisal to be conducted. This provides
an opportunity to reexamine every aspect of the project plan to assess whether
the proposal is appropriate and sound before large sums are committed.
Financial institutions normally make their own appraisal of projects presented to

them for loans before they contribute funds for implementation of the projects.
That is why project appraisal is usually seen as a major activity of lending
institutions while project feasibility study is normally undertaken by project
promoters/consultants.
Usually, the techniques applied to appraise projects center around technical,

commercial, market, managerial, organizational, and financial and possibly also
economic aspects. For the purpose of standardizing the Bank's project appraisal
guidelines and align with feasibility studies presented by its clients, it has become
necessary to revise the existing project appraisal guidelines of the Bank.
This study is, therefore, conducted to review the Bank's prevailing project
appraisal guidelines.
1.2. Objective of the Guidelines

Improve efficiency of the Bank.
Reduce risks associated with project financing.
Improve quality of loan appraisal reports.
Use as a training material for project appraisal officers
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2. Executive Summary
All the major issues addressed in the appraisal report need to be summarized in a
precise and conclusive manner without too much detail. No major topics should be
passed untouched. An attempt should be made to summarize each major topic or
section in separate paragraph, there-by justifying the proposed loan. The following
interdependent issues must be addressed.
2.1 Background Information

Particulars of the project like name of the Appraisal Team, Applicant, Objective of
the Project, Purpose of the Loan, and Status of the Project (New / Expansion).
type and location of the project and form of organization shall be discussed in
this section.
2.2 Success and Risk factors

Summarize the level of risk with its mitigation mechanisms and success factors
of the project. Present Risk Grade in Tabular form.
2.3 Market and Marketing Strategy

The findings with regard to the market prospect of the project in terms of market
penetration capability, major advantage, such as location, quality cost, and etc
must be pointed out. Indicate SWOT analysis results.
2.4 Technical Feasibility

The highlights of location, layout, and cost estimates, appropriateness of
technology selected, production capacity, infrastructure, and related issues will
be discussed in brief.
2.5 Organization, Management and Manpower

Soundness of the proposed organizational set up and competence of
management along with availability of manpower shall be indicated under this
section.
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2.6 Financial Viability
Summary of investment costs, and financing schemes and findings of the
financial analysis made with regard to profitability, liquidity and Sensitivity test
must be pinpointed.
2.7 Socio-Economic Justifications

Issues like creation of employment opportunities, utilization of domestic
resources, regional development, taxes revenue to the state, export earning and
foreign exchange saving capacity should be stated.
2.8 Recommendation
Based on the justifications presented for establishing or expanding a project, a
recommendation should follow to accept the project for financing by stating the
proposed loan amount and the terms and conditions to which it is subjected.
2.8.1 Proposed Loan Amount and Purpose

Total amount of loan proposed, purpose and the name of the
promoter/project should be mentioned in clear and precise manner.
2.8.2 Terms and Conditions of the Proposed Loan
a) Terms
I) Disbursement Schedule
Schedule of loan disbursements should be prepared in the most
convenient way without ambiguity by including the following: -
o Disbursement priority
o Disbursement installment
o Purpose of disbursement and to whom it is to be
disbursed
o Conditions prior to disbursement
ii) Interest Rates and Other Charges
Loans carry different charges fixed by the Bank which varies from
time to time. The prevailing charges must be stipulated as follows.
o Interest rate - %
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o Commitment charge - %
iii) Repayment schedule

Depending on the nature of the project, loan repayment
schedules could be fixed as monthly, quarterly, semi-annually
and annually.
b) Conditions: - some conditions are tied to the loan approved by the

Bank. These are: -
I) Collateral
State the collateral required to safeguard the interest of the Bank.
ii) Insurance
Ascertain that the client should buy insurance policy for all fixed assets
of the project and/or the collateral offered with DBE as a co-
beneficiary.
iii) Current Account. The promoter should open current account
at DBE
iv) Record Keeping. Ensure that sound financial and production
reports are kept by the client.
v) Other Conditions
State other conditions whenever deemed necessary, e.g.
employing competent manager, settlement of previous loans
along with the interest due, opening of letter of credit, depositing
equity contribution in cash form , rising of capital at least to the limit
of equity contribution in case of PLC, or Share Companies, etc.
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3. Project Background
This section explains general information on the promoter and the project.
Information on same can be obtained mainly from the loan application format filled-in
by the promoter and the various documents submitted by the client
3.1 The Applicant

3.1.1 Name of the Applicant
T The prospective borrower and/or project promoter which could be a
natural or legal person depending on the organization of the business and
the license issued. Therefore, the name of the applicant may be shown as
follows: -
a) Natural Person
o First Name
o Father's Name
o G. Father's Name
b) Legal Person
o Pvt. Ltd. Co.
o Share Company
o Co-operatives
o Partnership
o Joint Ventures
o Other (Specify)
3.1.2 Address
Addresses are usually of two types as shown below
a) Applicant Address
The items of the address required will be the following: -
o Name
o P.O. Box
o House No.
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o Tel. No.
o Fax No.
o Country & City/ Town
o E-mail
b) Project Address
This is the geographical location where the project is exactly located.
The items of information required shall include interalia.
o Regional State
o Zone
o Woreda
o Town/Village
o Keble
o House No.
o P.O.Box
o Tel.
o Fax
o E-mail
3.1.3 Marital Status: Indicate the marital status of the promoter.

3.1.4 Type of Project or Economic Activity
This states the business in which economic sub-sector the promoter is
engaged in, and for which a bank loan is requested. Below are some
examples of economic sub-sectors.
- Food Processing
- Textile and Garment
- Vegetable production
- Tannery Leather and Leather Products
- Poultry Farm
- Floriculture
- Others
3.1.5 Legal Form of Business
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This states the form of the business organization in accordance with the
Commercial Code of Ethiopia, some examples are listed below.
o Sole Proprietorship
o Partnership
o Private Limited Company
o Share Company
o Joint Ventures
o Co-operative Societies, etc
3.1.6 Status of the Project

It should be mentioned here whether the project is a new one or ongoing
concern (Expansion).
3.1.7 Registering Agency/ Agencies

In accordance with the various Governments' (Federal/ Regional)
regulations, all investment projects must be registered by an authorized
body. Registering Agencies could be Ministry of Trade and Industry or
other Federal/Regional/National/Bureau. This information can be obtained
from the applicant's document.
3.1.8 Licensing Agency/ Agencies

Again in accordance with the various Governments' (Federal/Regional)
regulations, there are institutions which give licenses so that investors/
project promoters/ will operate the business legally. Among such
institutions is the Ethiopian Investment Commission (EIC). The Ministry of
Trade and Industry, Regional Offices of same, etc. This information can
also be obtained from the applicant's document.
3.1.9 Registration Number and Date

This could be available from the registration certificate obtained.
3.1.10 License Number and Date
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This could be available from the license issued.
3.1.11 Tax paying identification number (TIN)

This could be obtained from Revenue Authority or client.
3.1.12 Value added tax registration certificate
3.1.13 Size of land holding

Here the size of land rented, leased or owned may be indicated. For
hectares (Ha) or square meters (m2) may be used.
3.1.14 Right of occupancy

The legal basis of land ownership via leased from the government, leased
from municipality or leased from individual may be stated.
3.1.15 Lease Period

The number of years for which the land is leased must be indicated as 20
years, 30 years and 99 years.
3.1.16 Capital
3.1.16.1 Equity capital - It is the amount to be contributed by the
applicant
3.1.16.2 Paid-up Capital- If it is a company, write down the share
contributions at the time of establishment.
3.1.16.3 Authorized Capital - State the capital limit of the
enterprise.
3.2 Brief History of the Promoter/Project

The promoter of the project/applicant could be a natural or legal person.
Therefore, the history must be accounted accordingly. The items of information to
be included, interalia are: -
3.2.1 Natural Person
a) Full Name
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b) Date of Birth
c) Nationality
d) Family Status
e) Educational Status
f) Work Experience
g) Other Essentials
3.2.2 Legal Person

(Companies, Enterprises, Firms etc)
a) Foundation or establishment
b) Shares and par values
c) Number of share holders
d) Business experience (for existing ones)
e) Others
3.3 Review of past Performance (Expansion)

A project may be an on-going concern where the promoter approaches the Bank
to finance the expansion or working capital shortfalls. Accordingly, the following
issues need to be addressed in this section.
3.3.1 Summary of Existing Investment on the Project

The detailed breakdown of existing project investment should be given in
the Annex. Here, only a summary will suffice as illustrated in the following
table.
Description Date of Original Accumulated Book

Purchase Value Depreciation Value
Land and site developments
Building and Equipment
Motor Vehicles
Office Furniture and
Equipment
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Working Capital
Other
Total
3.3.2 Description of the Activities of the Project and Quantifiable Results

3.3.2.1 Production Performance
A brief account of the total quantities of items produced during the
last three years has to be made. This may be obtained from
production records of the promoter and can be used to evaluate the
physical performance of the project. This section will be dealt with
only if the project is an ongoing one.
3.3.2.2 Financial Performance

A schedule of actual revenues and costs for at least the last three
years, showing the actual picture of the profit and/or loss statement
for the same period may be provided indicating the net profit/loss.
The information can be obtained from audited reports of the project.
3.4 Credit Information

Assessment and discussion of past connections of applicant with local/foreign
lending institutions, including DBE should be made to decide whether the
applicant is credit worthy or not. The credit information should be requested both
for the promoter (spouse if any) as an individual and the project as a business
entity. The collected information presented in tabular form as shown below.
Sr. Name Amount Date Expiry Periodic Balance Collateral Remark

No. of granted Granted Date repayment as at --- Value
Creditor
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After making a thorough assessment of the past credit history of the client, it has to be
rated as follow.
Satisfactory ______________
Unsatisfactory ________________
3.5 Briefly discuss Business track record of the applicant/Shareholders/related

companies/Sister companies and show summary of three years financial results
based on audited or provisional statements. Indicate their credit history.
3.6 The Loan

Write down date of application, amount requested and amount proposed with the
purpose. Reasons for variations (if any) between amount requested and
proposed should be described.
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4. Key Success and Risk Factors
4.1 Key success Factors (KSF)

 Identify major macro level, sect oral level and firm level success factors.
 Use the 5Cs (from due diligence) to evaluate firm level success factors.
 Each KSF need to be measured and benchmarked against previous projects
(newly financed projects, projects in operation and against accepted industry
standard)
 Clearly indicate factors that would facilitate success.
4.2 Risk Factors

 Identify major macro level, sect oral level and firm level risk factors.
 Each risk need to be measured and benchmarked against previous projects
(newly financed projects, projects in operation and against accepted industry
standard)
 Clearly indicate the risk mitigation measures to be taken at each level.
5. Market Analysis
5.1 General Review

A general review of the world, regional or domestic market of the sector/ Industry
has to be presented.
5.2 Demand Analysis and forecasting (as deemed necessary)

5.2.1 Demand Determination
Quantified statistical data on the demand situation of a product must be
obtained from reliable statistical sources. There are a few national as well
as international institutions which release such information and data for
major traded commodities.
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Among these institutions are Central Statistical Authority (CSA), National
Bank of Ethiopia (NBE), and Ethiopian Customs Authority. Publications of
the World Bank, Food and Agricultural Organization (FAO), etc are also
major sources of data for market analysis. Moreover, utilization of Internet
facilities and referring available sectoral studies in the Bank is also
indispensable.
In making demand assessment for a given commodity some of the

interrelated economic and social factors which influence the demand
behavior, have to be considered, if and when possible.
What was the sales trend in the past? If sales are expected to increase in
the future, is it realistic to expect that trend to continue? What are the
factors that affected the trend in the past and are those factors expected
to change?
1) Estimated demand (apparent consumption)
2) Structure of demand by income group
3) Identify potential customer base, including market research conducted
and survey of potential customers
4) Identify how market penetrating is intended and the rationale behind
5) Provide rationale behind the main assumptions of forecasting demand
trends, supported by historical data
6) Provide actual performances of similar domestic firms engaged in the
same business
5.2.2 Demand Forecasting
Based on the foregoing demand analysis, a realistic demand forecast is to
be made for the future project's life span. Therefore, the following
techniques for demand forecasting may be used.
- The trend (extrapolation) method
- The consumption-level method (including income and price elasticties
of demand)
- The end-use (consumption coefficient) method
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- The leading indicator method
- Regression models
- Others
5.3 Supply Analysis (As deemed necessary)

5.3.1 Domestic and foreign supply
Both the local sources of supply of product or service as well as imported
supply (not applicable for service projects) of the same must be assessed
from available statistical data and information.
Domestic productions in terms of quantity, value, capacity utilization of

domestic firms and trend development have to be compiled and analyzed.
Imported supply of product must be assessed in terms of quantities as
well as prices so as to make the supply statistics complete and
comprehensive.
Planned supply and total supply trend as well as short term supply
behavior have to be compiled and analyzed.
5.4 Others
Other factors which influence both global as well as domestic markets:-
 Availability of material inputs and alternative suppliers
 Environmental, health and other restrictions
 Skilled human resource availability and wage bill
 Proximity to major markets
 Ability to convey products to the market (road transport, airfreight)
 Global opportunities & threats
5.5 Marketing
5.5.1 Market prospects of the proposed product or service
The following factors have to be considered in the market analysis of
proposed product or service:-
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 Market structure (competition, sales territories and distribution systems
available)
 Demand/supply comparison, market share, market penetration
capacity (possibility)
 Location advantage
 Cost advantage (labor, raw materials, etc)
 Quality advantage
 Supply agreement with customers, if any
5.5.2 Major Marketing Areas for the Product or Service
A commodity produced by a project may not be marketed at the
point/locality/ of production. In the majority of the cases the produce may
be transported to long distances to reach other region even within a
country. These regions/ zones where the produce will be potentially
marketed must be identified when making the market assessment. This
would, of course, help for the products strategic market planning.
If commodity produced by a project is to be exported, the importing

country should be identified and known so as to enable to prepare a
sound market planning in the future, or find alternative export market
outlet.
5.5.3 Marketing Strategy and Arrangements for the Product(s) or Services

All projects may not be directly involved in the marketing operation of their
product or services. When a project has different intermediaries for
marketing its produce or service, the Appraisal Officer handling the project
must carefully assess the different intermediaries involved starting from
the primary market to terminal or final disposal point.
5.6 Price Analysis

1. Historical trend of price
Historical prices, at least for the past five years, of the items to be produced or
services to be rendered by the project being appraised should be collected. A
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simple trend or other forms of analysis must thereby apply to find out whether the
overall price movement is upward, downward or constant.
2. Comparison of domestic wholesale, FOB and CIF prices

3. Unit cost vis-à-vis domestic price
4. Economic relationship analysis where possible
5. Projected sales price and price comparison with competitors
6. Detail price advantages/disadvantages
7. Price Build-up or Cost plus Approach
It may be useful to workout the selling price of an output. The price build up is
computed based on attainable capacity of the project. The detail of price build up is
as shown below:-
1. Volume of Output
2. Total Operating Cost
3. Production cost per Unit
4. Sales Tax or Service Tax
5. Other Taxes
6. Interest and Other Charges
7. Profit Margin of 15% - 30% is recommendable
8. Selling Price per Unit
5.7 SWOT Analysis
SWOT analysis is a basic, straightforward model that provides direction and serves
as a basis for the development of marketing plans. It accomplishes this by assessing
an organizations strengths (what an organization can do) and weaknesses (what an
organization cannot do) in addition to opportunities (potential favorable conditions for
an organization) and threats (potential unfavorable conditions for an organization).
The SWOT analysis provides information that is helpful in matching the project's
resources and capabilities to the competitive environment in which it operates.
A project should not necessarily pursue the more lucrative opportunities. Rather, it
may have a better chance at developing a competitive advantage by identifying a fit
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between the firm's strengths and upcoming opportunities. In some cases, the firm
can overcome a weakness in order to prepare itself to pursue a compelling
opportunity.
By sorting these issues one can obtain a system which presents a practical ways of
assimilating internal issues (strengths and weaknesses) and external issues
(opportunities and threats) delineating short and long term priorities as presented
below:
 S-O strategies pursue opportunities that are a good fit to the company's strengths.
 W-O strategies overcome weaknesses to pursue opportunities.
 S-T strategies identify ways that the firm can use its strengths to reduce its vulnerability
to external threats.
 W-T strategies establish a defensive plan to prevent the firm's weaknesses from making
it highly susceptible to external threats.
Use the following SWOT analysis framework for summary purpose.
Environmental
Scan
Internal
Analysis External Analysis
Strengths Weaknesse Opportuniti Threats

s es
SWOT
METRIX
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6. Technical Study
6.1 Location and Site

This is the geographical location where the project is exactly located.
Assessment should also follow as to the project's proximity to raw material
source and market outlet. The Appraisal Officer should use the above mentioned
and other interalia in order to justify the selection of place where the project is to
be located.
6.2 Project Engineering

In this section, the engineering aspects of the project must be carefully laid-down
and thoroughly discussed and justified.
6.2.1. Building and Civil Works
Based on the plans and bill of quantities submitted by the promoter, plant
layout incorporating production halls, storage for raw materials and
finished products, workshops, auxiliary buildings, site works, etc. is
determined to ensure smooth functioning. Evaluation of construction costs
must be carefully conducted to avoid cost overruns during project
implementation.
6.2.2 Farm structure, land development, irrigation infrastructure, etc.

6.2.3. Machinery and Equipment
Performa invoices (includes machinery and equipment specifications) from
at least three suppliers and possible from different countries must be
submitted by the promoter to facilitate the proper selection of machinery
and equipment of the plant. Following the justification of selection of the
appropriate technology and country of origin, the following issues must be
addressed:
a) Theoretical and attainable capacities and the number of shifts must be
specified and quantified. Justification for capacity fixing is required.
b) Description of the production process of the plant is essential
c) Use of consultants in the design, executing and operation of the plant.
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d) Plan for execution (installation schedule, availability of skilled /
Unskilled labor for erection, training scheme and its cost, if any, must
be described
e) Auxiliary capital equipment (spare-parts, vehicles, material handling)
f) List and cost breakdown of machinery and equipment including full
details of sources (suppliers)
6.3 Utilities
Description of source and availability of utilities required is made to ensure the
smooth operations of the project. Therefore, the following items must be
addressed.
1. Description of utilities required (source & availability)
2. Power requirement in KW and annual KWH consumption.
3. Power installation arrangements and costs
4. Fuel consumption (quantity & cost)
5. Water supply and cost
6. Telephone, fax, internet, etc
7. Infrastructures
6.4 Materials for Use (Inputs)

Materials for use in the operation process should be identified in terms of
quantity, source, availability and cost. Available facilities for handling and storing
should also be assessed.
6.5 Production
 Details of production process
 System of production
 Expected production capacities
 Breakdown of production costs (labor, raw material, general overheads)
 Comment on total costs and costs per item
 Stock management plan and expected stockholding costs
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6.6 Environmental Impact Assessment
Projects may have direct/indirect as well as positive/negative impact on the
environment. Such impacts must be identified and discussed including the
corrective measures that should be in place to minimize the negative impact in
particular. Therefore, the following aspects should be addressed.
Environment policy review
Developmental sustainability of the environment
Appropriate mitigation measures
Valuation of environmental impacts
Discounting environmental effects
Uncertainty and risk assessment
6.7 Project Implementation Plan

Project implementation plan of a project is not an easy task. Before laying down
an implementation plan, all the major activities and components must be carefully
identified, clearly defined and quantified. The duration which each activity will
take must be estimated and quantified. Finally, the resources required for
implementing the project must be identified, estimated and quantified in terms of
physical, financial and human aspects.
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7. Organization, Management and Manpower
 Organizational set up, including an institutional organization chart (present
and future) depending on the type of organization (Sole proprietorship, PLC,
Share Company, etc.)
 Full description of all key management members with level of experience and
qualification
 Availability of management and technical personnel for the proposed project
both at implementation and operational phases and arrangements to retain
management and technical personnel
 Number and availability of skilled, semi-skilled and unskilled labour in the
project area
 Employee remuneration (wage bill), incentive scheme and other benefits
 Plans for recruiting and training personnel
 The need for external consultancy service in area of finance, legal, technical
and production and arrangements made to employ them
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8. Financial Analysis
This includes estimated financial costs of the project, financing scheme, and
expected returns from the project. Essential items that must be considered in the
financial study of a given project are briefly discussed below.
8.1 Investment outlay

The investment items required/requirements by a project vary from one project to
other both in diversity and complexity. Before costing the items, therefore, it is
very important to identify the requirement for each specific project based on its
uniqueness. Caution must be taken not to overlook any investment item. Care
should also be made not to over burden the project with investment items which
are not essential.
After identification and quantification of the investment items required by a

project, the final step is costing them. First, the unit costs must be known or
estimated on the basis of per unit. Once the unit cost is known or estimated the
total investment costs must be aggregated on year-to-year basis and presented
in a tabular form.
8.1.1. Existing Investment
For existing projects, all the fixed assets and working capital of the
enterprise should be exhaustively enumerated. The corresponding cost of
these items should also be assessed taking care of associated
depreciation and amortization costs.
8.1.2. Planned Investment

Taking note on explanations given under 6.1 planned investments to be
made including fixed investments (building, machinery and equipment,
furniture and fixture, vehicles, power installation costs, etc), working
capital and pre-operation costs shall be thoroughly identified with their
corresponding cost estimates. The working capital which is the difference
between current assets and current liabilities should be carefully worked
out thoroughly considering the factors affecting it. The following are the
points that need due consideration.
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1. The requirement of working capital depends on the turnover of inventories. The
higher is the inventory turnover, the number of times inventories are sold and
replaced, the lower the amount of working capital required. The amount of working
capital is also influenced by the speed at which receivables are converted into cash.
2. Terms of purchase and sales affect working capital requirement. Favorable terms of
purchases would reduce the amount of cash tied up in inventory. Similarly, liberal
credit extension to customers would involve tying up working capital in receivables.
3. Working capital requirement is also basically related to industry to which the project
belongs. If the production cycle is long, the requirement is large and vice versa. A
diversified multi product project is also requires a large amount of working capital to
a single product unit.
4. Seasonal and cyclical factors affect the level of inventories and hence working
capital.
During busy season and upswing of business activity, units do need larger amount
of working capital.
Given the aforementioned points that determine the working capital requirement and
the resultant variation on the items to be considered and the periods it is supposed
to cover, the following could give a clue on its determination.
It is usual to provide for 2-3 months stock of indigenous raw materials and up to 6
months stock of imported raw materials. Wages, salaries, cost of power, steam, fuel,
packing and sales expenses are taken at one month. The provision for good in
process is generally taken at around 15 days but this would obviously vary
depending on the nature of the industry. Provision is also made for receivable at the
rate of about 2 months' sales. It is also necessary to deduct from the working capital
so arrived at the amount of purchases available on credit for one/two months.
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8.1.3. Total Financial Requirement
In case of existing or expansion projects, the total financial requirement
will just be the summation of existing and planned investment costs. For
new projects, the total financial requirement equals planned investment
costs of the project.
8.1.4 Financing Scheme

The Appraisal Officer appraising a project for DBE's funding must clearly
identify and list the various financial sources for executing the project.
Basically, there are two sources viz;
1) Equity or share contribution by the promoters of the project, and
2) Bank credit.
The total project cost, total financial requirement and total source of
finance must match.
8.1.5. Equity requirement
The minimum equity requirement set by DBE is 30%.
8.2 Revenue Estimates and Operating Costs

8.2.1 Revenue Estimate
It is estimated value of sales/service expected to be realized during the
accounting years under consideration.
8.2.2 Operating Cost

Operating costs are recurrent direct and indirect costs committed for the
production of goods or services by a project. Operating costs are variable
costs as opposed to investment costs, which are fixed. Basically,
operating costs are of two types as discussed below in brief.
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8.2.2.1 Direct Costs of Production
It is a cost which can be consistently identified with a specific unit of
output. Direct or variable costs consist of two types: (1) direct
materials, or supplies which can be connected directly with an
individual product; and (2) direct labor, which is the portion of
wages and salaries that can be identified specifically with the
product are classified as direct costs. Thus, the raw materials used
in a given production process and labor which changes the form of
materials in the productive process is usually called direct, or
productive, labor.
8.2.2.2 Indirect and/or Overhead Costs of Production

These are operations, administration and distribution expenses
indirectly to be incurred by a project. Depending on the type and
diversity of the project, a wide range of items is included, interalia;
salaries for permanent employees, travels and perdiem expenses,
stationery and office supplies, fuel, oil and lubricant for motor
vehicles, land rent charges, legal fees, postage, telephone and
telegraph, audit fees, transport expenses, repair and maintenance
of fixed assets, property and life insurance expenses, etc.
The Appraisal Officer, who appraising a project for DBE's financing,

must carefully identify the wide range of direct and indirect cost
items depending on the type of the project. No item must be
omitted and/or overlooked. Once the items are identified and listed
down properly, costing must be made based on sound and realistic
assumptions and information.
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8.3 Projected Financial Statements
There are three financial statements which indicate the profitability,
liquidity and net worth of a given project. These are: -
1. The income statement
2. The cash flow
3. The balance sheet
8.3.1. Profit and/or Loss forecast

The projected profit and/or loss statement indicates whether
a project is going to be a profitable venture or a losing one on a
year-to-year basis. The Appraisal Officer appraising a project for
DBE's financing must carefully note that all operating and non-
operating expenses are deducted to arrive at the net income or net
profit. The projected income statement must be presented in a
tabular form.
8.3.2. Cash Flow Forecast

The projected cash flow indicates the liquidity position of a project
over its estimated life span. The project must either generate
surplus cash after meeting all its obligations or must incur deficits.
All investment costs, direct and indirect production costs, sales and
income taxes, interest on Bank loans, principal loan repayments,
withdrawals and dividends to shareholders etc. must be deducted
to arrive at the current net cash flows. The current net cash flow
then must be aggregated to cumulative cash flows. The cash flow
must be presented in a tabular form.
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8.3.3. Balance Sheet Forecast
The projected Balance Sheet indicates the growth or movement of
the project's asset at a point in time. The Balance Sheet is the
articulation of the "Cash flow" and the "Income Statement". If
anything goes wrong with these two statements, the "Balance
Sheet" will not balance.
8.4 Viability and Other Measures of Project Worth

8.4.1. The financial Internal Rate of Return (FIRR)
The FIRR is one of the viability indicators used in investment decisions. It
represents the return (in percentage terms) earned on an investment over
its economic life. It is defined as the discount rate which will cause the
NPV of an investment to be zero. The resulting FIRR should be higher
than lending rate or opportunity cost of capital or cutoff rate adopted by
the Bank to determine investment worthiness.
There are two approaches according to DBE's practice in the computation

of the FIRR. A brief discussion is given below.
a) FIRR Before Tax

The Net Benefit or Increment Cash flow is derived from the gross value
of production (estimated revenue) by deducting the investment and
production costs. Sales as well as Income Tax and other taxes are not
considered or not deducted here. The discounting technique
(Interpolation Method) is then applied to yield the FIRR pre-tax.
b) FIRR After Tax

The Net Benefit or Increment Cash flow is derived from the grow value
of production (estimated revenue), by deducting the investment and
production costs. Sales as well as Income Taxes and other taxes are
then considered here (deducted). The discounting techniques
(Interpolation Method) are then applied to yield the FIRR after tax.
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8.4.2 The Net Present Value (NPV)
This is the present value of future cash flows discounted at the appropriate
cost of capital minus the cost of investment. To calculate NPV, find the
present value of expected net cash flows of an investment discounted at
an appropriate rate and subtract from it the initial cost of the project. The
project is viable if the NPV is greater or equal to zero.
8.4.3. Benefit /Cost Ratio (BCR)

Benefit Cost Ratio is one of the discounted measures of project worth. It is
a ratio of total discounted benefits to total discounted costs. A BCR
greater than one indicates that the project is viable.
8.4.4. Sensitivity Analysis

Sensitivity analysis is normally used to determine consequences of
specified changes in variables such as product prices, sales volume,
operating expenses and investment costs. Its purpose is to identify the
variables to which the financial international rate of return (FIRR) is most
sensitive. It enables the analyst to determine the impact of changes in
costs, production volume, and prices on returns and viability of the project.
8.4.5. Break-Even Analysis

The prime purpose of break-even analysis is to determine the lowest sales
volume or operational level at which the project neither incurs losses nor
gains profit, for a given particular sales price.
8.4.6. The Payback Period

The payback, also called pay-off period, is defined as the period required
recovering the original investment outlay through the accumulated net
cash flows earned by the project.
The payback period is useful if a new project would have to expect rapid
technological change in the sector, in particular when the technological life
cycle is much shorter than the technical life cycle of the project or its main
components.
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8.4.7 Ratio Analysis
8.4.7.1 Return on Capital Employed (ROCE)
ROCE is the fundamental measure of profitability, defined as the
ratio of profit (return) to capital employed. Profit before tax is
generally preferred because calculations using profit after-tax
figures may show trends due simply to ranges in the rates of
taxation. It should also be noted that the test of profitability should
be based on the gross assets at the project's disposal, irrespective
of the scheme of financing.
8.4.7.2 Current Ratio

The current ratio is an overall test of liquidity. It is computed by
dividing current assets by current liabilities. A lower current ratio
may indicate a shortage of working capital, while a higher one may
be due to excessive stocks. Though there are no universally
recognized current ratio levels, a current ratio of 2:1 is generally
considered as desirable.
Current Ratio =
8.4.7.3 Stock Turnover

Liquidity of stocks is indicated by the stock turn over ratio. This
shows the liquidity with which the stocks are turned over into cash
through sales.
The stock turnover may be expressed into two alternative ways.
1.
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This tells the number of times the stock has been turned over in a
year to generate sales.
2.
This is the inverse of the first ratio and it tells the period taken to
turnover the stock or the average period the stock has remained in
the enterprise.
Generally, a high turnover ratio signifies efficient stock

management.
9. Socio - Economic Aspect

9.1 Economic and Social Benefits and Costs
Some projects supply to the export market, earning foreign exchange. Others
could be foreign exchange saving (import substitution ones). Depending on the
type of the project, these points shall be cited as justification for proposing a loan.
Related issues like creation of employment opportunities, backward and forward
linkage effects, utilization of domestic resources, regional development, taxes
revenue to the state, production of strategic commodities, etc also be listed under
this section.
9.2 Economic IRR (Economic Analysis)

Economic analysis of projects is concerned with the investigation of the impact of
projects on the national economy. It can be distinguished from financial analysis
in that attention is not confined to the costs and benefits affecting a single
organization. There are two major aspects of economic analysis which can be
considered.
First of all projects may have external costs and benefits and/or direct linkages to
other groups or organizations within the economy. The second major aspect of
economic analysis derives from the possibility that some of the prices used in the
analysis of projects may not adequately reflect the economic value of the item
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concerned. If prices do not give an adequate indication of value, assessment of
projects using market prices may not give a very good indication of the costs and
benefits of a project to the national economy.
When economic analysis of projects is conducted, the most important question is

usually whether or not the project under examination is beneficial to the national
economy. Economic analysis can also be used to provide information on the
impact of projects on key economic variables such as foreign exchange earnings,
taxation revenue, employment and income distribution.
10. Conclusion and Recommendation

10.1 Conclusion
10.2 Recommendation
10.2.1 Proposed Loan Amount and Purpose
10.2.2. Terms and Conditions
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Annexes
The main text of the appraised report must be supported by Annexes. The selection of
the material to be appended as annex entirely depends on the nature, diversity and
complexity of the project being handled. The Appraisal Officer who appraising a project
must carefully scrutinize and select only the important materials to be appended as
annex to the main report. The following are appended as annex to the main report.
1. Profit and Loss Projection.
2. Cash flow Projection.
3. Balance Sheet Projection.
4. Internal Rate of Return Calculations.
5. Assumptions Used in the Financial Projection.
 Working day per annum
 Working hours per day
 No. of shifts
 Area under production and yield/hectare
 Capacity installed
 Capacity utilization rate
 Product and sales mix
 Price of product
 Revenue estimation
 Operating Costs
- Raw material
- Packing materials
- Utilities
- Transportation costs
- Fuel and lubricant
- Wage and salary
- Repair and maintenance
- Employees benefits
- Telephone, fax, Internet & postage
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- Office supplies
- Insurance
- Audit & legal fees
- Uniform
- Depreciation and amortization
- Miscellaneous
- Others if any
 Details of Pre-operating costs (plan & design cost, feasibility study
cost, project management cost, etc.)
 Others ( historical audited financial statements for existing ventures)
6. Working capital determination
As stated earlier, working capital requirement includes the direct as well as the
indirect costs that a project incurs in order to produce commodities. The
determination of the working capital requirement of a project is based on its
production cycle. Since it is project specific, how it is determined and for how
long a period it will be considered depends on the kind of project at hand. Here
under are shown some of the projects that require working capital
determinations.
1. Projects that generate revenue on a day-to-day basis and where expenditure
is likewise expended daily.
2. Projects that generate income two or three times a year.
The determination of working capital will be based on the following

considerations.
1. How long it takes for a project to start generating revenue that will enable it to
cover its own recurrent costs.
2. The kinds of material inputs required by a certain project and whether
adequate stock of certain important inputs for a certain period of time is
required or not are influences very much how to determine the working capital
requirement.
7. Existing Machinery and Equipment Schedule.
8. Existing Furniture and Fixture Schedule.
9. Planned Machinery and Equipment to be procured Schedule.
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10. Planned Furniture and Fixture Schedule.
11. List of Vehicles and their Costs (if any) Schedule
12. Others (depending on the project type) schedule
13. Loan Repayment Schedule
The project years, the dates in which the principal loan and interest will become
due, the outstanding balance, must be presented in a tabular form as shown
below.
Date Principal Loan Interest Outstanding

Repayment Payment Balance
Jan. 31,
July 31,
14. Depreciation and Amortization Schedule

The useful economic life of all assets used by a project must be known or
estimated. Once the life span of the assets is known, the Appraisal Officer
appraising the project must estimate the annual fixed asset costs- i.e.
depreciation expenses- used in the production process. There are about five
accepted methods of "Depreciation", but the Bank uses the "Straight Line
Methods". DBE's Appraisal Officers must therefore, use the same unless
instructed otherwise.
Amortization is a form of depreciation for intangible assets. It is applicable mainly
for medium and large-scale projects whose implementation period is estimated to
be over a year.
15. Detailed Project Implementation Schedule should be attached.
16. Miscellaneous Supporting Documents
17. Addendum
Explanation on concepts, formula, financial model, etc used in the appraisal shall
be indicated under this section.
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DAEVELOPMENT BANK OF ETHIOPIA
REGULATION OF THE LOAN APPROVAL TEAM
March 2008
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INTRODUCTION
The Development Bank of Ethiopia is a strategic Development finance institution

established to promote the objective of national development. Accordingly, a national
mission is bestowed on the Bank to promote development by providing credit services
and playing a critical role in the efforts to enhance the country's economy. In pursuit of
this objective also the bank is required to carefully assess and evaluate development
projects submitted for financing.
Given that the bank must operate with transparency and accountancy to achieve this
goal, it follows that the system of provision of credit must be efficient and in compliance
with the Bank’s credit and other policies, regulations and relevant national legislation.
To implement this objective, a system, which ensures that credit documents shall be
checked and approved at multiple stages down the line and before it is submitted to the
loan Team, has taken effect in the bank. Notwithstanding, this procedure, however, the
credit research document must be considered by the loan Team that is comprised of
various senior Bank officers to further ensure that the loan is assessed from various
angles and view points, i.e. state development strategies as well as with respect to
resource management and cost effectiveness.
The guideline and working procedure is designed to ensure that scarce resource is
urged properly from the point of view of national interest and Bank policy. It also
guarantees that resource is invested in cost effective development operations and the
means of its repayment is properly reinforced. Further, the fact that the project is
examined and approved at multiple stages upfront before the deliberation and final
approval by the Loan Approval Team is believed to increase quality of decision and
consequently the chance of success for projects appraised and approved by the Bank.
It is, therefore, in pursuit of this objective, necessary that a working guideline be

designed for the Bank’s Loan Approval Team meetings. Accordingly, this guideline tries
to establish the working procedure, powers, and duties, authority and responsibilities
etc, of the Loan Approval Team.
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Section I
1. Short title
1.1. The procedure manual can be referred as the guideline or rules and
regulation of the Loan Approval Team of the Development Bank of
Ethiopia.
1.2. All team members shall be appointed by the President.
Section II
2. Accountability
The Loan Approval Team shall be accountable to the President of the Bank.
Section – III
3. Composition of the Loan Approval Team

3.1 The Loan Approval Team will be composed of the following five members.
 Research……………………………………………… Chairperson
 Resource & System Management…….………………Member
 Corporate Planning …………..……………………… Member
 Finance ……………………….………………………. Member
 Credit Risk ………………………….………………. Member
The Credit Core Process and Appraisal Sub-process representatives shall

be non-voting members of the Team.
3.2 The Team will have its own secretary at senior officer level with no Vote.
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Section IV
4. Powers and Duties of the Team

The Team will have the following Powers and duties:
4.1 The Team shall based on the written policies and procedures of the Bank,
review and pass its decision on all loans and project rehabilitation
proposals primarily closely scrutinized and approved at multiple stages
down the line and submitted for its consideration and final approval
4.2. The Team shall ensure that loan and project rehabilitation proposals are in
full compliance with the Bank’s policy and procedure and loan appraisal
guideline/format.
4.3. The Loan Approval Team operates in the belief that the various organs of
the Bank participating within the loan screening and multiple loan approval
ladder not only function properly and efficiently to uphold their designated
responsibilities but also to promote the effective implementation of Bank
policy.
4..4 The Team shall from time to time, in connection with the credit policy, loan
approval and project rehabilitation processes and with the overall
objectives of improving the loan and project rehabilitation approval
process and system, submit its considered views, on identified
shortcomings and weak points as regards the loan appraisal and approval
process in general.
4.5 The Team thus as a rule continues its work with the firm belief that its
recommendations to management for the improvement of identified
shortcomings in the above areas and in general in relation to the credit
relations, loan administration and loan appraisal system will be taken care
of without more ado so as to ensure its normal, continuous and
uninterrupted operation.
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4.6 The Credit Process representative or Project Rehabilitation and Loan
Recovery sub-process owner or representative shall submit a particular
credit research document or proposal to the Team for consideration. In
such cases he/she shall present, explain and defend that particular project
without having a right to Vote.
4.7 The loan appraiser may be summoned by the Approval Team, as and when
appropriate to explain a credit research document.
Section V
5. Duties and Responsibilities of members of the Loan Approval Team

5.1 Entertain all loan proposals which are beyond Main Branches approval
limit.
5.2 Entertain all project rehabilitation proposals.
5.3 Ensure that agricultural, industrial and other service sector loan proposals
submitted by the Credit Process office contribute to the economic growth
of the Country.
5.4 Ascertain that the loan proposal or project rehabilitation document

submitted to it is in line with the Bank’s credit policy.
5.5 Ensure that the project is financially profitable and technically viable.
5.6. Ensure the social desirability of the project with effect on the increase in
new employment, foreign exchange savings or earnings, increase in
government revenue and the degree of domestic resource are exploited.
5.7 Ensure that terms, conditions and other guidelines for granting loans
indicated hereunder are strictly adhered to while formulating credit
research documents or loan proposals in appraising:-
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5.8 Loan disbursement schedules are based on fulfillment of all condition and
loans must be disbursed in cash or by payment direct to suppliers and
contractors.
5.9 Repayment periods, grace periods and final maturity dates are tailored to
the needs of the project assisted and to the credit policy of the Bank.
5.10 Interest and other charges are in place as per the credit policy of the
Bank.
5.11 Ascertain that the collateral requirement is fulfilled as per the Bank’s
policy.
5.12 Ascertain that sufficient insurance coverage is proposed.
5.13 Ascertain that the debt/equity ratio of a project financed by the Bank is in
accordance with the Bank’s policy.
5.14 Ascertain that the credit worthiness of the promoter is established by

obtaining credit information from NBE, including DBE and appropriate due
diligence report.
5.15 Ascertain that the promoter’s project is legally established in accordance

with the commercial laws of the country.
5.16 Conduct site visits when deemed necessary and particularly when the
proposal submitted to Loan Approval Team is not convincing.
5.17 Perform other duties as assigned by the President of the Bank.
5.18 Exceptional approvals shall be reported to the President of the Bank.
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Section VI
6. Duties and Responsibilities of the Chairman

6.1 The Chairperson is responsible for acquaintance of rules and procedures
suitable for the Approval Team.
6.2 The Chairperson shall insure that:-

 Sufficient preparations have been made to call a meeting.
 The date of the meeting is announced and the agenda with all
necessary documents have been distributed to members two days
before the meeting is convened.
 There is a quorum.
6.3 The chairperson shall open the meeting and invite the concerned process
to present its loan or project rehabilitation proposal.
6.4 The Chairperson shall chair the meeting carefully and ensure that rules
and procedures are respected by members.
6.5 The Chairperson shall ensure that important matters discussed by the
meetings are minuted, corrected, finalized and signed and shall follow
any matters decided by the meeting is executed.
6.6 All actions taken by the Approval Team shall be reported to the
President.
Section VII
7. The Secretary of the Loan Team

The Secretary shall be assigned by the President and he/she shall:-
7.1 Collect loan proposal submitted by the Credit Process.
7.2 Collect project rehabilitation proposals submitted by Project Rehabilitation

and Loan Recovery sub-process
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7.3 Prepare agenda for meetings of the Loan Approval Team in consultation
with the Chairperson.
7.4 Distribute the agenda enclosing credit research or project rehabilitation

document submitted for review to each member of the Team at least two
days before the meeting day.
7.5 Facilitate the convening of the Loan Approval Team and take minutes of
the agenda discussed by the Team.
7.6 Collect additions, changes, or edition made from the Credit Process,
Appraisal Sub-process and Project Rehabilitation and Loan Recovery sub-
process and inclusion in the proposal as per the Team’s
recommendations.
7.7 Circulate among members, the first draft of the minutes of the meeting
within two days for review and finalization.
7.8 Prepare the final draft of the minutes and circulate among members for
signature within one day.
7.9 Distribute approved minutes and proposals for the concerned process.
7.10 Prepare monthly report to the Chairperson detailing suggestions and

recommendations of the Loan Approval Team to be dispatched for the
President’s action.
7.11 Prepare and submit to the Chairperson monthly summary of loans

submitted to Loan approval Team and their status.
7.12 Perform other duties as assigned by the chairperson.
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Section VIII
8. Liabilities and Duties of Team Members
8.1 The chairperson or any Team member has the right to attend all Team
meetings, to know the agenda and make propose to support or to object.
8.2 Every member is bound to attend the meeting at the right day and time. If
she/he is confronted to a problem, she/he must notify to the chairperson in
advance.
8.3 Any Team member must read the loan or project rehabilitation proposal
before the meeting.
8.4 Any opinion expressed by any member must be incompliance with the
agenda and respectful of others thought and of participants right who
attend the meeting with ethical behavior.
Section IX
9. Procedure of Loan Approval Team Meetings

9.1 Place of meeting
9.1.1 The loan Team shall convene at head office in the 4 th floor
conference hall of the Bank.
9.1.2 The meeting shall be conducted twice a week.
9.2 Date of meeting

9.2.1 Subject to sub-Section 9.1.2 of this Section, the Loan approval
Team shall have regular meetings every Tuesday and Thursday
starting from 9-12 a.m.
9.2.2 When and the meeting is not held on these days due to any reason
whatsoever and where there exists agenda to be deliberated upon,
the Team shall sit every next day or at any time that the
chairperson thinks it.
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9.2.3 Extraordinary meetings may be called by the chairperson at any
time whenever necessary.
9.3 There shall be a quorum where ¾ of the Loan approval Team members
are present.
9.4 Decision shall be taken by the Team where there exists ¾ of the majority
vote.
Section X
Approval of the Loan Approval Team
The approval of the Loan Approval Team shall be based on the policy and
guidelines of the Bank that are laid down from time to time.
Section XI
Relation of Loan approval Team with Main Branch Approval Team
The Loan Approval Team provides assistance in the preparation and updating
of the terms of reference of Main Branch Loan Approval Team when deemed
necessary.
The Loan Approval Team may visit main branches and provide technical
assistance and exchange experiences, if necessary.
Section XII
Accountability of Team Members

12.1 Members the Team is, in accordance with this regulation and the credit policy,
liable for the execution of their duties.
12.2 Members who fail to abide by the Bank’s policy and directives are individually,
jointly and severally accountable.
12.3 Without prejudice to sub-Section 12.2 when the Team renders a proposition of
decision if a Team member objects to the decision a member will not be liable for
the prejudice.
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Section XIII
Conflict of Interest
13.1 Members of the Approval Team are required proactively reveal any conflict of
interest that may exist in regard to particular loan applications. Members having
such a conflict will take no part in discussion nor will they vote on that particular
application.
13.2 Conflict of interest will be recorded in the minutes of the Approval Team.
Section XIIII
Power of Attorney
Any Team member prevented to attend a meeting due to illness, annual leave or
any other serious reason can notify the fact to the chairperson and appoint someone
to represent him. The attorney will exercise fully the right and obligations of the
principal.
Section XIIIII
Various Provisions
15.1 Amendment of the Regulation
If necessary this regulation can be amended at any time.
15.2 Scope of the regulations

This regulation will enter into force as of ………………..
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Pre and Post Credit Risk Measurement/Rating Criteria
March,2008
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I. CREDIT RISK MESUREMENT
Credit risk is defined as the risk of loan repayment default by borrowers. Credit risk
arises from poor lending discipline, quite often-inadequate attention to credit analysis,
poor follow up and management of loans and too much reliance on collateral. As a
result, asset prices decline and credit risk emerges. Loan default is a common feature
of credit risk. It is the likelihood that a debtor to the bank will not meet obligation in
accordance with agreed terms. Good loans are the most profitable assets for banks
and are the base for their existence. Conversely, bad loans pose threats to the
financial and institutional sustainability of banks. Credit risk is, therefore, understood
as the critical problem in the banking industry that needs to receive management’s
priority attention and proper administration.
Like any development financial institutions, credit risk is a major problem to the
Development Bank of Ethiopia. Looking at the portfolio, the size of non-performing
loans has continued to rise from one financial year to the subsequent due to loan
repayment default by debtors, and this has contributed to the deterioration of the
portfolio quality. For instance, the total loan portfolio of the Bank as at December 31,
2005 stood at Birr 5,290 million. However, non-performing loans reached at Birr 1,915
million during the same period, and this accounted for 36 percent of the total portfolio,
providing evidences to the poor asset quality and the looming threat to capital erosion
and financial un-sustainability.
To cope with the current looming threats, it is imperative to manage credit risk at bank
level and ensure sustainability, which is critical to financial institutions. Credit risk
management essentially means the process that assesses the qualitative and
quantitative factors that support credit worthiness; mainly it focuses on evaluation of
borrowers’ creditworthiness, loan security and periodic valuation.
Credit risks are measured at pre and post credit approval stages and are discussed
separately as follows.
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1.1. PRE –CREDIT RISK
Pre credit risk analysis covers the period from the appearance of the borrower till
the preparation of the loan contract. Pre-credit risk consists of potential risks that
are likely to occur due to failure to examine rigorously the credit worthiness of the
borrowers and bank ability of the project. Before credits are sanctioned, the
Development Bank of Ethiopia undertakes a series of screening measures to
ascertain the bank ability of the project. The loan applications are checked for
their completeness and meeting the standard criterion set by the Bank and this is
normally done at Client Relationship Officer Level.
The following yardsticks are used to measure the risk associated at the pre-
appraisal stage. These can be divided into two broad categories i.e. applicant
strength and collateral strength.
Assigned
Expected Risk Points
A. Business/Applicant Strength (Critical issue)
 Character of the Applicant 35
 Project Management Risk 25
 Capital Adequacy Risk 20
 Market Risk 20
Total 100
B. Collateral/Guarantee Strength (Last resort)
1.Risk Transfer Agreement
 Financial collaterals including cash deposit
 Bank/Insurance Guarantee
 Government Guarantee and Securities
2. Building (both project and residence)
3. Vehicles
A.
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A. Business/Applicant Strength
It is the most important and desirable issue seriously considered and given due
attention. Processing of good loan and favorable loan portfolio begins with the
selection of prospective applicant or business at the outset. Hence, the screening
criteria shall be set to achieve this goal. This includes character of the borrower,
competence, and capital and market condition. The weight associated with each of
them is determined as follows:-
1. Character of the Applicant (35 points)
Business success and the resultant financial viability basically depend on

adequate selection of appropriate applicant at the beginning. Hence, before
accepting the project for appraisal, screening of the incoming borrower’s past
history basically, his/her credit relation with other financial institutions, trade and
tax offices, municipality, etc. shall be critically evaluated. Besides, if possible,
analysis of social interaction shall not be underestimated as well.
In order to screen the character of the incoming borrower the following points are
used:-
Description Assigned Points

The applicant's credit history with other banks 20
The applicant history to settle taxes on tread 10
office, municipality, etc
The applicant history in social interaction 5
Sub – total 35
1.1. The applicant credit history with financial institutions (20 points)
This can be sub-divided into two parts. These are the borrower credit
relation with financial institutions and settlement of loan borrowed.
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1.1.1 Number of times the client borrowed from banks (5 points)
Borrowing record Rating Assigned Points

Point
Scored
Borrowed more than 3 times Excellent 5
Borrowed 2 times Very good 4
Borrowed 1 time Good 3
New to borrowing Fair 2
1.1.2 Settlement of loan borrowed (15 points)

Not only number of times borrowed from financial institutions that
matter but loan contract based on time settlement of the loan is
crucial. In this case the following rating criteria are used.
Assigned Points
Settlement of Loan Rating Point Scored
Borrowed more than 3 times 15
& no record of default
Excellent
but settled 30 days after due
Very good
date
but the loan settled 2 months
Good
(60 days) after due date
but the loan settled 3 months
Un-satisfactory
(90 days) after due date
Borrowed 2 and more times 0
but the loan settled by
Reject
foreclosure/litigation
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1.2. The applicant history with tax Authorities
(10 points)
Description Rating Assigned Points

point
scored
 The applicant has good Excellent 10
track record of meeting tax
obligations
 The applicant has settled
required tax a little behind V. Good 8
schedule
 The applicant has settled
required tax after
transferred to court
 The applicant did not pay Satisfactory 4
tax (tax evader)
Unsatisfactory 0
1.3. The Applicant social interaction (5 points)

point scored
 The applicant is socially Excellent 5
well recognised in his/her
surrounding
 The applicant is not
properly known in his/her Good 3
surrounding socially
 The applicant has bad
image in his/her
surrounding socially
Unsatisfactory 0
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2. Competence/Capacity of the applicant (25 points)
This sub-heading specifically deals with managerial ability and technical knowledge
of the applicant concerned.
2.1 Managerial Ability (15 points)
Here it is important to view educational background, special trainings and

experience of the borrower to run the envisaged project.
2.1.1 Education (5 points)
Educational Level Rating Assigned Points

Point
Scored
BA degree and above Excellent 5
Diploma Very good 4
Certificate Good 3
Grade 8-12 Satisfactory 2
Below grade 8 Unsatisfactory 1
2.1.2 Experience (10 points)
Level of experience (X) Rating Assigned Points

Point
Scored
X ≥ 5 Years Excellent 10
X = 4 Years Very good 8
X = 3 Years Good 6
X = 1-2 Years Satisfactory 4
X = 0 Year Un-Satisfactory 2
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2.2 Technical Knowledge (10 points)

Point
scored
The promoter has technical Excellent 10
knowledge and engaged on same
business for more than 3 years
The promoter has technical Very good 8
knowledge and engaged on same
business for more than 1 year
and less than 3 years
The promoter has only technical Good 6
knowledge but not engaged on
same business
The promoter has no technical Satisfactory 4
knowledge but engaged on same
business for more than 3 years
The promoter has no technical Unsatisfactor 2
knowledge but engaged on same y
business less than a year
3. Capital Adequacy Risk (20 points)
In rating capital risk, the proportion of equity to loan or operating leverage and
proportion of fixed versus variable costs are considered.
3.1 Gearing/Leverage (10 points)
Equity (x) Rating Assigned point Points earned

 X≥75% Excellent 10
 60%≤x<75% Very Good 8
 50%≤x<60% Good 6
 30%≤x<50 Satisfactory 4
 X<30% Unsatisfactory 0
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3.2 Variable Verses Fixed Cost (10 points)
The proportion of variable versus fixed cost has substantial influence on the
operation and profitability of the project. Higher proportion of fixed asset,
especially at the early stage of production, has adverse effect since the costs are
indivisible.
Proportion Rating Assigned Points

point earned
 Low fixed and high variable costs Excellent 10
 Balanced fixed and variable cost Very Good 8
 Moderately higher fixed and variable cost Good 6
 High fixed and low variable costs Satisfactory 4
 Very high fixed versus very low variable Unsatisfactory 2
costs
4. Market Risk (20 points)
Under this heading dependency and vulnerability are discussed

separately as follows:
4.1 Dependency (10 points)

It refers to the accessibility of the project both to outputs and inputs
markets. Analyzing market share, segmentation, diversification and timing
are important to take precaution measures.
Description Rating Assigne Points

d point earned
 Highly diversified customers and suppliers base Excellent 10
 Limited customers and/or suppliers of sales
or purchases V. Good 8
 Customers and/or suppliers limited to few
industries, sales or purchases Good 6
 Highly dependent on one or two other industries
or customers group Satisfactory 4
 Completely dependent in one industry or
customer Unsatisfactory 2
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4.2. Vulnerability to output substitutes (10 points)
Description Rating Assigne Points

d point earned
 No substitute available or likely Excellent 10
 Few substitutes available or high switching costs V. Good 8
 Several substitutes available or moderate
switching costs Good 6
 Many substitutes easily available or no switching
costs Unsatisfactory 2
Based on the above parameters and points allotted, standard measurement

scale for the particular business/project can be grouped as follows:
Interval Rating List

75≤x≤100 Prime
65≤x<75 Acceptable
45≤x<65 Watch list
20≤x<45 Doubtful
x<20 Loss
X=Cumulative total of all mentioned risks under this heading
B. Collateral Strength (Last option)
Sell of collateral is the last option to the Bank when the project fails to service the
loan as agreed between the Bank and the borrower. A particular collateral or security
may be held in order to cover a particular loan or multiple loans. To evaluate the
strength of the collateral, whether loan security offered is able to provide adequate
guarantee to the loan or not, shall be rated as follows:
 Strongly secured
 Fully secured
 Partially secured with moderate risk
 Partially secured with high risk
 Totally unsecured
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First and foremost in taking collateral on loans three conditions shall be properly
examined. These conditions are seniority, protection and control. Seniority refers to
the non-existence of a preferential claim to the collateral by third organ. Protection
mean a determination of proper margin for lending against collateral and control
signifies knowing at all time how the condition of collateral is and its value at a specific
time. By assuming that seniority and control are in place the analysis in this heading is
concerned with protection.
The evaluation of collateral depends on its nature. Therefore, it is better to classify the
collateral into collateral of fixed assets such as building and vehicles and Government
guarantees and other securities separately.
1. Collateral of Fixed Assets (Building and Vehicles)
In order to classify the loan on various security standards, the following

steps shall be first determined:
 Calculate the loan amount (it may be one or more) secured by the collateral.
Second degree collateral may not be included in this calculation.
 Estimate the value of the collateral or security accurately based on sufficient
grounds.
 After determination of collateral value and loan amount, divide the value of
the collateral to the loan amount in order to arrive at a particular percentage.
2. Other Guarantees and Securities
In case of Cash, Government, Bank and Insurance guaranties the agreed

amount with the institutions is considered and divided by the uncollected loan,
interest and related charges amount.
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Based on the above mentioned procedures rating points shall be as follows:
Grade Interval Security Strength
 x≥150% Strongly secured

 125%≤x<150% Fully secured
 100%≤x<125% Partially secured with a moderate risk
 75%≤x<100% Partially secured with a high risk
 x<75 Unsecured
X= Collateral value divided by loan amount
C. Credit Risk Measurement Matrix
The combination of borrower business and collateral strength are used to establish
appropriate risk grade. By applying these variables the following credit risk-rating
model is established by adapting the Standard and Poor’s (S&P`s) issuer rating.
Borrower business strength

Security strength Prime Acceptable Watch Doubtfu Los
list l s
 Strongly Secured AAA AA A B B
 Fully Secured AA A BBB B CCC
 Partially Secured with moderate
risk A BBB BB CCC CC
 Partially secured with high risk BBB BB CCC CC C
 Unsecured BB CCC CC C D
N.B – Shaded area shows bankablity for financing
Based on the above risk rating matrix, risk level is listed below:
Risk Grade Risk Class

 AAA Extremely lower risk
 AA Very low risk
 A Lower risk
 BBB Acceptable risk
 BB Medium risk
 B and below (i.e. B, CCC, CC, C, and High risk
D)
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When it is applied to the incoming applicants, this risk rating criteria is used for
screening at the outset to reject or accept.
2.1. POST CREDIT RISK
Post credit risk begins after the first disbursement onwards. The following
benchmarks are used to measure risk at post credit stage. These can be divided
into two broad categories i.e. business assessment and collateral strength.
Risk Type Assigned Points
A. Project/Business Assessment (First Option)

 Default Risk 30
 Character of the Borrower 25
 Project Management Risk 20
 Market Risk 15
 Capital Adequacy Risk 10
Total 100
B. Collateral/Guarantee strength (Last resort)
1.Risk Transfer Agreement
 Financial collaterals including cash deposit
 Bank/Insurance Guarantee
 Government Guarantee and Securities
2. Building (both project and residence)
3. Vehicles
A. Borrower's/Business Strength
It is clear that when loan is granted to a borrower, the Bank believes that the loan will be
recovered from the income generated from the normal operation of the business. To
achieve this goal, the adequacy of the under listed variables are crucial. The
description, rating and associated point of each variables are shown separately as
follows.
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1. Default Risk (30 points)
Diversion of fund and intentional failure to repay are rated under this heading.
1.1. Intentional Failure (15 points)
Description Rating Points points

given earned
 Generating sufficient income and not lag Excellent 15
behind the repayment period
 Generating sufficient income but lag V. Good 13
behind less than half repayment period
 Generating sufficient income but lag Satisfactory 10
behind one repayment period
 Generating sufficient income but lag Unsatisfactory 7
behind one and half repayment period
 Generating sufficient income but never
meet its commitment and repayment due Unacceptable 4
above two times
1.2. Diversion of Fund (15 points)
Under this category diversion of loan and diversion of income are treated
separately.
1.2.1 Diversion of loan (10 points)
Description Rating Points Points

given earned
 Did not diverting the whole loan amount Excellent 10
 Diverting part of the loan for expansion
program of same business V. Good 8
 Purchasing inferior quality of machinery
and siphoning off part of the loan for other Satisfactory 5
purpose
 Diverting part of the loan to unrelated
business activities Unsatisfactory 3
 Diverting the whole loan amount to
unrelated business Unacceptable 0
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1.2.2. Diversion of project Income (5 points)
Description Rating Points points

given earned
 Did not diverting the whole project Excellent 5
income
 Diverting the whole project income for V. Good 4
expansion of the same project
 Diverting part of project income for
expansion of the same project but other Good 3
not paid
 Diverting part of project income to other Satisfactory 2
activities and pay the remaining
 Diverting the whole project income to Unsatisfactory 1
other activities
2. Character of the borrower (25 points)
In this case it is borrower's income tax settlement, borrowing frequency with financial
Institutions and conditions of settlement of loan are treated in this heading.
2.1 Condition of project income tax settlement (10 points)
Condition of project income tax Rating Points given Points earned

settlement
 Settled project income tax Excellent 10
timely
 Settled project income tax a Very Good 8
little behind schedule
 Settled project income tax Satisfactory 4
after transferred to court
 The borrower did not pay Unsatisfactory 0

project income tax
2.2 Number of times borrowed from the Banks (5 points)
No. Of times Rating Points given Points earned

borrowed
 X≥3 Excellent 5
 X=2 Good 3
 X=1 Unsatisfactory 1
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2.3 Condition for Settlement of Loan (10 points)
Condition of loan settlement Rating Points Points

given earned
 Settled at regular repayment Excellent 10
 Settled timely but with an element of irregularity Very Good 8
 Settled timely but with high irregularity say after 2
repayments periods Good 6
 Settled after several repayments elapsed and the
loan totally due but before transferred for Legal Satisfactory 4
action
3. Project Management Risk (20 points)
The project management may be weak and cause for project failure against the
expectation of the appraisal. In order to take remedial action, evaluation of
management to address management risk in credit operation is necessary and the
assessment is based on the following points.
3.1 Experience on the management (10 points)

given Earned
 10 years and above Excellent 10
 9-6 years V. Good 8
 5-3 years Good 6
 2 years Satisfactory 5
 <1 year Unsatisfactory 2
3.2 Task Performance (10 points)
Not only the management education and experience, but understanding the
business character, performing what is required accurately on time and handling
of such necessary statistical facts are also crucial in assessing management
capability.
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Tasks Rating Points Points
given earne
d
 Understanding the business character, accurate Excellent 10
planning, adhering to plan implementation, and
information handling
 Understanding the business character, accurate V. Good 8
planning and implementation but information handling
is not proper
 Business character is understood and the plan is
accurate but plan implementation and statistical Good 5
information is lacking
 Business character is well understood but the
remaining duties are not proper Satisfactory 3
 All tasks of the business are performed without
plan and no relevant documentation of facts Unsatisfactory 0
4. Market Risk (15 points)

Identifying input and output market is critically important for the success of any
project. Not only identifying but also acting accordingly is also important too. Under
this heading degree of dependency and vulnerability to inputs and outputs market
has been assessed.
4.1 Dependency (10 points)

It refers to the accessibility of the project both to outputs and inputs markets. Analysing
market share, segmentation, diversification and timing are important to take precaution
measures.
Description Rating Points Point

given earned
 Highly diversified customers and suppliers base Excellent 10
 Limited customers and/or suppliers of sales
or purchases V. Good 8
 Customers and/or suppliers limited to few
Industries, sales or purchases Good 6
 Highly dependent on one or two other industries or
customers group Satisfactory 3
 Completely dependent in one industry or customer
Unsatisfactory 0
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4.2. Vulnerability to output substitutes (5 points)

given earned
 No substitute available or likely Excellent 5
 Few substitutes available or high switching costs V. Good 4
 Several substitutes available or moderate
switching costs Good 2
 Many substitutes easily available or no switching
costs Unsatisfactory 1
5. Capital Adequacy Risk (10 points)
In rating capital risk, the proportion of equity to loan or operating leverage and
proportion of fixed versus variable costs are considered.
5.1 Gearing/Leverage (5 points)
Equity (x) Rating Points given Points Earned

 X≥75% Excellent 5
 60%≤x<75% Very Good 4
 50%≤x<60% Good 3
 30%≤x<50 Satisfactory 2
 X<30% Unsatisfactory 0
5.2 Variable Verses Fixed Cost (5 points)
The proportion of variable versus fixed cost has substantial influence on the
operation and profitability of the project. Higher proportion of fixed asset,
especially at the early stage of production, has adverse effect since the costs are
indivisible.
Proportion Rating Points Points

given earned
 Low fixed and high variable costs Excellent 5
 Balance of fixed versus variable cost Very Good 4
 Moderately higher fixed and variable cost Good 3
 High fixed and low variable costs Satisfactory 2
 Very high fixed versus very low variable costs Unsatisfactory 1
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Based on the above parameters and points allotted standard measurement scale for the
particular business/project can be grouped as follows:
Interval Rating List

75≤x≤100 Prime
65≤x<75 Acceptable
45≤x<65 Watch list
20≤x<45 Doubtful
x<20 Loss
X= Cumulative total of all mentioned risks under this heading
B. Collateral Strength (Last option)
Sell of collateral (loan security) is the last option of the Bank when the project fails to
service the loan as agreed between the Bank and the borrower. A particular
collateral or security may be held in order to cover a particular loan or multiple loans.
In assessing the strength of the collateral, whether the security provides adequate
coverage or insufficient, shall be rated as follows:
 Strongly secured
 Fully secured
 Partially secured with moderate risk
 Partially secured with high risk
 Totally unsecured
First and foremost in taking collateral on loans, three conditions shall be properly
examined. These conditions are seniority, protection and control. Seniority refers to
the non-existence of a preferential claim to the collateral by third organ. Protection
mean a determination of proper margin for lending against collateral and control
signifies knowing at all time how the condition of collateral is and its value at a
specific time. By assuming that seniority and control are in place, the analysis in this
heading is concerned with protection.
The evaluation of collateral depends on its nature. Therefore, it is better to classify

the collateral into collateral of fixed assets such as building and vehicles and
Government guarantees and other securities separately.
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1. Collateral of Fixed Assets (Building and Vehicles)
In order to classify the loan on various security standards, the following steps
shall be first determined:-
 Calculate the loan amount (it may be one or more) secured by the
collateral. Second degree collateral may not be included in this
calculation.
 Estimate the value of the collateral or security accurately based on
sufficient grounds.
 After determination of collateral value and loan amount, divide the
value of the collateral to the loan amount in order to arrive at a
particular percentage.
1.1 Other Guarantees and Securities
In case of Cash, Government, Bank and Insurance guaranties, the agreed

amount with the institutions is considered and divided by the uncollected loan,
interest and related charges amount.
Based on the above-mentioned procedures, rating points shall be as follows:
Grade Interval Security Strength
x≥150% Strongly secured

125%≤x<150% Fully secured
100%≤x<125% Partially secured with a moderate risk
75%≤x<100% Partially secured with a high risk
x<75 Unsecured
X= Collateral value divided by loan amount
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C. Credit Risk Measurement Matrix
The combination of borrower business and collateral strength are used to establish
appropriate risk grade. By applying these variables the following credit risk-rating
model is established by adapting the Standard and Poor’s (S&P`s) issuer rating.
Borrower business strength

Security strength Prime Acceptable Watch Doubt Loss
list full
 Strongly Secured AAA AA A B B
 Fully Secured AA A BBB B CCC
 Partially Secured with moderate
risk A BBB BB CCC CC
 Partially secured with high risk BBB BB CCC CC C
 Unsecured BB CCC CC C D
NB- Refer the attached annex for the representation of the symbols used in rating
matrix mentioned above
Based on the above risk rating matrix risk level is listed below:-
Risk Grade Risk Class

 AAA Extremely lower risk
 AA Very low risk
 A Lower risk
 BBB Acceptable risk
 BB Medium risk
 B and below (i.e. B, CCC, CC, C, and High risk
D)
When it is applied to the existing borrowers such classification is used to classify the
loan according to risk grades. Especially clients listed under high risk class shall
need frequent follow up to rehabilitate their projects or to take immediate liquidation
action.
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Annex
Explanation of symbols for rating
 AAA-Stands for extremely strong capacity to meet financial Commitment

 AA-Stands for strong financial capacity to meet commitment
 A-Strong commitment, but vulnerable to adverse effect of change
 BBB-Adequate capacity to meet its commitment but adverse economic
conditions likely to weaken.
 BB-an obligor in this category is less vulnerable in the near term than other lower
rated obligor, but faces major uncertainties and exposures to adverse business,
financial or economic conditions which could lead to inadequate capacity to meet
financial commitments.
 B-an obligor currently has the capacity to meet its commitments, but adverse
conditions impair the capacity to meet commitments,
 CCC-an obligor is vulnerable and dependent upon favorable business, financial
and economic conditions to meet financial commitments.
 CC-stands for high vulnerability to uncertainties and major exposure of adverse
conditions.
 C- Close to or already bankrupt
 D-Payment default on some financial obligation has actually occurred.
Page 90 of 144
Procedure for the Separate and accelerated

Supervision of Rescheduled Loans
March,2008
Page 91 of 144
I. Background
Loan rescheduling or renegotiation is a common practice in the banking industry. The
need for loan rescheduling is, however, more widespread especially in the realm of
development banking. This is because development banks almost exclusively deal with
the establishment of new projects as opposed to commercial banks, which at least here
in Ethiopia, mainly focus on financing well managed going concerns.
In other words, the launching or establishment of new projects in general is more prone
to financial difficulties than in the case for going concerns. This is especially true in
countries like ours where the necessary prerequisites for successful project
establishment and management, i.e. entrepreneurial capacity, management capacity,
infrastructure, policy formulation and implementation etc. are at a rudimentary stage.
Hence, partly because of the nature of the business of the development banking,
internal project management related problems and also because of the fact that even
well run projects often face financial difficulties due to a number of internal and external
factors, loan rescheduling has also been a common practice within DBE.
Notwithstanding this fact, however, it is unjustified loan rescheduling, i.e. loan
rescheduling to projects whose problem cannot actually be solved by such a measure,
that has often caused or led to serious financial problems to both creditors and
borrowers.
Another reason that has made loan rescheduling a major concern in DBE is the
extremely unhealthy consequences and occasional negative impacts of the action both
the Bank and its borrowers. This is explained in more detail later in the paper.
This procedure is therefore, intended to review the overall loan rescheduling practice
within DBE and establish the procedure whereby rescheduled loans are supervised
separately on an accelerated basis. The procedure consists seven parts as detailed in
the table of contents.
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II. Causes, Problems and Definition of Loan Rescheduling
As indicated earlier, projects may, from time to time, suffer from internal and external
factors that seriously obstruct their normal business operations.
The causes of the incidents which seriously impact the operations of the business or
project could of course be internally precipitated or external factors. Whereas, the
internal problems are mostly associated to management and technical problems, the
external factors mostly deal with problems like drought, flood and other sector specific
or industry problems.
Under such a situation, therefore, whereas temporary financial distress precipitated by

external problems is often treated by simple debt rescheduling or debt restructuring
exercises (i.e. where the financial viability of the project is still intact), complex problems
of financial distress exacerbated by debt over burden and questionable viability need to
be handled under troubled debt restructuring or by serious restructuring or bankruptcy.
In short, while operational destabilizations and the consequent financial hiccups may be
resolved by debt restructuring or loan rescheduling, in order to give the project a
breathing space until it emerges out of the financial straight-jacket, more complex
financial problems often require serious debt restructuring measures.
General debt restructuring or loan rescheduling measures do not, however, come easy
as it requires the project or business to sufficiently explain, justify and convince its
financing bank before it is allowed the necessary temporary reprieve. Hence, it is such
temporary, well justified relief measures agreed upon, i.e. between the financing bank
and the borrower, which are commonly described as loan rescheduling.
On the other hand and from practical experience it is noted that it is actually
inappropriate or unjustified loan rescheduling measures that often complicate the
financial problems of projects and that usually lead to irreversible financial difficulties.
Such cosmetic actions, which are taken without an in depth analysis of the real sources
of the project's problems not only endanger the debt servicing capacity of borrowers but
could also harm the financial health and sustainability of projects.
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Such problems are often the direct result of the improper actions of financial institutions
that renegotiate or reschedule loans to projects that are, from the outset, technically
flawed and financially unviable due to serious internal management, technical and other
similar problems. These are problems that cannot be alleviated by general debt
restructuring or simple loan rescheduling.
III. Common Impacts of Loan Rescheduling in DBE
Most rescheduled loans have continued to stay under the non-performing loans
classification per NBE’s new policy because they often fail to meet the requirement
of two consecutive loan repayments that are necessary to reverse their status to
performing loans;
3.1 Undifferentiated loan rescheduling exercises have often increased the

debt burden of borrowers even when it is clear that the cash flow
generated by the business is not sufficient to amortize the principal loan
amount. The major causes of such crisis were also capitalization of
accrued interest to over-burdened borrowers which obviously cannot be
solved by simple loan rescheduling exercises.
3.2 Loan rescheduling exercises also often disregarded maturity periods of

source of fund or were not required to account for the maturity period of
the source of fund. The unilateral consideration of repayment period
extension to borrowers may therefore have contributed to the observed
severe maturity mismatch problem of the Bank.
3.3 Whereas, the term of a loan that often changes during loan rescheduling
increase the risk of the Bank, this has not been compensated in any way.
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Such risks should have been offset by a simultaneous increase in the
lending rate to match the change in term.
3.4 Debt: equity calculations during loan rescheduling have at times omitted
loans advanced by other creditors;
3.5 The recommended minimum debt: equity requirement has also been often
disrupted as the equity contribution of borrower falls below the accepted
level during loan rescheduling (e.g. interest capitalization);
3.6 Repeated loan rescheduling has had the effect of unduly increasing the
liability of the borrowers and has, at times, contributed to inadequacy of
the collateral pledged due to interest capitalization;
3.7 Loans have been rescheduled repeatedly and occasionally up to five

times and it does not appear that the act of loan rescheduling has
improved the financial position of most borrowers.
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IV. DBE's Policy on Loan Rescheduling
4.1. All rescheduling must be approved by the Loan Approval Team;
4.2. The Bank may reschedule a loan if and only if there are acceptable
reasons;
4.3. A full credit document must be prepared for all rescheduling loans;
4.4. Loan rescheduling to a single project shall normally be limited to a
maximum of two times;
4.5. For those projects that are exhibiting high level of risk (decline in
profitability, request for rescheduling) must be reviewed on a quarterly
bases and if need be on a monthly basis. The credit process officer must
report on the project’s progress every quarter both financial and market
update. In addition a road map for recovery and risk mitigates must be in
place.
V. Procedures for Approval and Close Supervision of Rescheduled

Loans
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Risks due to rescheduled loans should, like any other type of loans, be measured,
monitored and controlled. One of the tools that help ensure these requirements is of
course the procedure for the approval and management of loan rescheduling and
rescheduled loans in general.
It is to be noted first and foremost that whatever the causes, rescheduled loans are
problem loans. It is, therefore, necessary that the relevant system or procedure for
the approval and administration of rescheduled loans should take into consideration
this especial nature and characteristics of such types of loans. Requests for loan
rescheduling should be submitted in writing to Credit Process or Main
Branch/Branch Manager and letter should clearly explain why the request for loan
rescheduling is lodged.
The Appraisal Process, prepares the appraisal report according to the standardized
format for rescheduled loans. The Loan Committee approve/reject the rescheduling
loan proposal as per policy and procedure of the Bank
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VI. Procedure for Follow-up and Performance Evaluation of
Rescheduled Loans
6.1. The credit process officer should closely monitor and evaluate the
performance of the project and frequently supported by regular site visit
and monthly reports.
6.2. The report should clearly indicate the performance of the rescheduled
project including loan repayment performance, management and changes
observed after rescheduling decisions.
6.3. The MIS process should produce a monthly standard report which shows
the status of all rescheduled loans separately, including the loan
repayment and position.
6.4. The Credit Process should prepare the progress report on the
performance of each individual project and all rescheduled loans under
the process at least monthly based on the result of the evaluation made
on rescheduled loans by the credit process officer and MIS standard
report.
6.5. The Risk Management Process should regularly and closely assess the
performance and position of all rescheduled loans based on the standard
MIS report on rescheduled loans and the inputs from Credit Process.
6.6. The Debtors must provide the audited financial statement report to the
credit process officer.
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VII. Format to be used for Preparing Appraisal Report of
Rescheduling Loans
The appraisal report should, among others, include the following
information:-
7.1 Project Background

 Name of client/company
 Address of
 Client
 Project
 Legal form of business
 Licensing agency
 License number
 Registration number
 Type of project
 Objective of the project
 Brief history of the enterprise and or the promoter
 Date rescheduling requested
 Reason for rescheduling request
7..2 Credit History

 DBE Loan status
 Amount approved originally and purpose
 Date of loan contract
 Loan position of the borrower including loan disbursed, loan
outstanding, loan in arrears etc.
 Loan utilization planned/actual, dates of current repayment
schedule
 Number of follow up conducted and proposed comments
 Number of rescheduling so far conducted if any
 Loan from external sources and status

 Brief explanation of the loan and its track record.
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7.3 Project Performance and Problems Encountered
 loan repayment to date
 Summary of operation – Production, yield, etc.
 Financial performance-Price, sales revenue, all financial statements
 Management aspects
 Problems encountered (reasons given by the borrower why the loan
request is lodged)
 Justification for rescheduling of the loan repayment by the concerned
organ of the Bank.
 Explanation on whether the cause of rescheduling is triggered by
external or internal factors.
7.4 Revised Business Plan
 Explain on how the arrears amount is treated.

 Give detailed picture of the newly proposed loan repayment schedule.
 The impact of the envisaged loan on the repayment program
 The impact of the rescheduling on the term of the loan.
 The impact of the rescheduling on the collateral pledged.
 The impact of the rescheduling on the debt: equity position of the
borrower.
 Review production and marketing plan
 Discuss the potential internal and external risks to the project
 Summary of financial statements of the proposed loan rescheduling
7.5 Recommendation
 The appraiser should provide his/her recommendation to approve or
reject the request with comments supporting the decision.
 Proposed loan repayment schedule
 Collateral coverage, type, value and marketability.
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 Debt/equity ratio
7.6 Annexes/Schedules
 Table of loan repayment schedule
 Audited financial statement
 Forecasted income statement for a period equivalent to the duration of
the loan
 Forecasted cash flow for a period equivalent to the duration of the
loan.
 Forecasted balance sheet for a period equivalent to the duration of
the loan
 Calculated FIRR
 Assumptions
Page 101 of 144
DEVLOPMENT BANK OF ETHIOPIA
ADDITIONAL LOAN APPRAISAL GUIDELINES
March,2008
I. INTRODUCTION AND BACKGROUND

INTRODUCTION
Additional loans are basically loans advanced to projects which could not be fully implemented
and commissioned mainly due to cost overrun precipitated by change in the price of goods &
services, the omission of key project components during appraisal exercises and occasional lag in
Page 102 of 144
project implementation arising due to factors external to the project i.e. problems beyond the
control of project management.
Additional loans do not necessarily generate additional income as the objective of the loan is
simply to close the financial gap created due to cost overrun.
Additional loans are often but unnecessarily confused with loan advanced for project expansion.
Whereas loans advanced for project expansion, as the name itself clearly indicates, actually
involve increase in project scale or size, however, in reality additional loans are simply loans
advanced purely to make-up or fill financial gaps or shortfalls arising from cost overrun or cost
escalation and/or lag in project implementation.
Therefore, risks to additional loans should like any other type of risks due to project financing be
closely monitored and evaluated.
Background
The preparation and recommendation of additional loan appraisals in the Bank were not in
general handled consistently. It is, therefore, cognizant to this fact that the re-appraisal and re-
approval of additional loans has been identified as one of the areas chosen for review and
reconsideration.
Page 103 of 144
Objectives
The objective of this paper is thus to streamline and harmonize the existing additional loan
appraisal practice in relation to risk and establish a format whereby current practices are
amended and request for additional funds for projects underway are subjected to reappraisal and
reapproval as well as to build transparency, accountability, effective service delivery and
reducing credit risks.
II. EXECUTIVE SUMMARY AND RECOMMENDATIONS (PROJECT

BACKGROUND)
Project Summary
This section is provided for the benefit of senior management officials, loan approval
team members and other readers who may not be immediately familiar with the
details of the credit and should provide an overview of the salient facts (features)
relating to the loan or the credit.
The following information should be given briefly:

 Purpose of the application (i.e. additional loan).
 What industry (sector) is it in and its location?
 Who is the borrower? What is his/her legal status?
 What are the previous loan amounts and purpose, additional loan proposed, total
project cost and its financing arrangement (Debt/equity ratio)?
 Collateral to be pledged and its considered market value and its adequacy to secure
the loan.
 Brief details of the result of financial projections and principal assumptions on
which they are based.
 Management and their ability to successfully under take the project.
 Repayment
 The principal risks and mitigating factors.
 Key success factors at macro, sector and project level.
2.2. Past performance of the project and utilization of Loan proceeds (status
of the Project)
2.2.1 Loan utilization: It has to explain that, all disbursements made are
being properly and effectively utilized for the intended Purposes.
2.2.2 Operational Status: state all relevant events both adverse and beneficial which
occurred since the date the loan was approved or the date of the last loan
review and analysis and the impact on the ability of the borrower to repay and
service the loan.
2.3. Recommendations
 At least two sound reasons why the Bank should approve or reject the additional loan.
 Amount and purpose of additional loan proposed
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2.4. Terms
 Disbursement.
2.5. Repayment Schedule

 Principal repayment
 Interest payment
 Commitment charge
2.6. Conditions
 Collateral
 Insurance
 Others
Page 105 of 144
III. BACKGROUND INFORMATION
This section should give complete background information about the promoter/company
and should include the following information:
3.1 The Promoter
 Name and address of the promoter
 Date of establishment
 Legal form of business/status
 Date of licensing
 Licensing number
3.2 The Project

 Address
 Type of the business
 If the project is a share company, name and number of share holders and
their respective amount of share holding.
 Do the borrowers have subsidiary company, how do they impact on their
operations and particularly how do they impact on the proposed project? If
the subsidiary companies have a significant impact, their accounts should be
consolidated in the spread sheets and the appraisal should include an
analysis of the subsidiary figures.
3.3 Brief History of the Promoters and/ or the Company
3.4 Credit Information:
Credit relations with DBE as well as other financial
institutions.
3.5 Reasons and Requirements of Additional Loan

3.5.1 Reasons for the need of additional loan ;
3.5.2 Additional loan requirement;
a) amount and purpose of Additional Loan Requested
b) proposed or revised additional loan requirement
IV. MARKET
4.1 Projects and products Market situation
Re-state the general market situation, in which the project is performing, key risks as
stated in the original approval and state any additional key risks which have become
apparent since the original appraisal together with the mitigating factors as now
considered in light of new information obtained.
4.2 Key success and risk factors

4.2.1 Re – state the perceived risks Key factors
4.2.2 Mitigating factors – the mitigating factors which make the risks
acceptable
4.2.3 SWOT analysis
IV. TECHNICAL CONSIDERATION
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 Project location
 Availability of utilities/ infrastructures/
 Physical lay out
 Technical fitness of the technology employed (machinery and equipment)
 Detail list of machinery and equipment with all cost to be incurred
 Detail list of other equipment and vehicles with their costs
 Raw material requirement with costs and availability
 Production processes
 Environmental impact assessment, certificate(license from Ethiopian Environmental
Agency)
 Implementation program (schedule)
Page 107 of 144
VI. ORGANIZATION AND MANAGEMENT
6.1 Management
Give brief biographical information on all existing key managers including the
general manager, sales/marketing, chief accountant by stating full name, age,
educational background, and years in present position, years in the company,
years in the industry and other relevant experiences. Include information on key
managers who proposed to recruit as part of the proposed project.
(Organizational chart of the project should also be provided)
6.2. Employees
State total number of employees and give breakdown between management and
administrative and skilled and unskilled labour. Give detail manpower
requirement, availability and cost.
VII. INFORMATION ON PROJECT FINANCING

7.1 Source of Finance
Provide a full and accurate break-down of all project costs and state how they are
funded or to be funded (source of finance i.e. debt/equity ratio) including the
previous fund allocation with all the variations both in tabular and narrative
form.
Page 108 of 144
Table 1
(Existing Loan Fund Allocation)
Planned Actual
No Item Own DBE Own DBE Variation
. source Loan Total source loan Total
1 Building
2 Machinery
3 Vehicle
4 Furniture and equipment
5 working capital
6 pre-production cost etc
Total
Debt/Equity ratio
Table 2
(Additional Loan Fund Allocation)
Own
source DBE Loan Total Remark
1 Building
2 Machinery
3 Vehicle
4 Furniture & equipment
5 Working capital
6 Pre – production cost etc.
Total
Debt/Equity ratio
Page 109 of 144
Table 3
Total Project cost & Source of Finance
(Existing + Proposed Additional Loan)
Own source DBE Loan Total Remark
1 Building
2 Machinery
3 Vehicle
4 Furniture & equipment
5 Working capital
6 Pre – production cost etc.
Total
Debt/Equity ratio
Page 110 of 144
7.2 Financial Projections
The financial projections made should include Balance sheet, Profit & Loss Account
projections, Cash Flow Projections and calculation of FIRR (Financial Internal
Rate of Return) at least for the period of the loan repayment.
 Analysis of financial statements:

a) The balance sheet
b) Income statement
c) Cash flow statement
d) The financial ratios
e) Financial Internal Rate of Return
f) Sensitivity analysis
g) Break – even analysis
VIII. ALL ASSUMPTION USED IN FINANCIAL PROJECTIONS &

SCHEDULES
 The assumptions as to future conditions made in preparing the project.

(Research data base must be employed)
 Proposed Loan Repayment Rescheduling Table
 Annexes
Page 111 of 144
Procedure for the Analysis of Defaulted Loans
March, 2008
Page 112 of 144
Background
A project is a commercial, economic or social plan or scheme with a given objective to be

achieved over a defined period of time. A project is also an activity on which scarce
resources are expended in anticipation of creating more benefits over an extended period
of time. Hence, project planning and appraisal is concerned with the technical comparison
of the expenditure and revenue or costs and benefits of an activity on which resources are
spent to achieve certain objectives.
Once projects have been identified, screened and selected for further scrutiny there begins
a process of progressively more detailed preparation and analysis of project plans. This
process includes all the work necessary to bring the project to the point at which a careful
review or appraisal can be taken, and, if it is determined to be a good project,
implementation can begin.
In order to ensure the sound execution and operation of projects, banks should carry out
timely follow-up or supervision visits, because they are interested to see that the projects
financed with their loans achieve the purposes for which they were intended and to ensure
their repayment as planned. The assumptions used in the preparation of the appraisal of
projects should be also followed up in order to ensure how these assumptions hold.
The process of project supervision or follow-up is, among others, to provide technical
assistance to clients to enable them improve their efficiency in project implementation and
loan utilization and thereby improve their income and loan repayment.
In spite of the series of care taken, however, financed projects can and may still face
repayment problems or default for a number of reasons. Although, what actually constitutes
default varies according to the specific provisions of each loan agreement, security
agreement, promissory note, or other related documents, the creditor usually has unlimited
right to foreclose, which means the creditor seizes the security pledged to the loan, sells it
and applies the proceeds to the unpaid balance of the loan, once it is proved that a
borrower has fully defaulted. This, however, is a last resort measure taken after a series of
procedural analysis.
/conversion/tmp/activity_task_scratch/697621643.doc Page 112 of 144

On the other hand, the analysis of problem loans or defaulted loans with the objective of
improving loan recovery and streamlining of operational procedures is among one of the
major task that falls directly under the Project Rehabilitation and Loan Recovery Process.
This Procedure consists of two sections. Section I deals with volume and severity of past
due loans, impaired loans and debt restructuring while section II deals with review system
and streamlining the working procedure of defaulted loans.
Section I
I. Volume and Severity of Past Due Loans
Financial institutions normally advance loans to borrowers under a specified loan contract
that clearly lays down the exact year and date for the payment of the loan advanced. It is
also the obligation of the financing institution to design and establish mechanism through
which the loan repayment programs of each and every debtor or borrower can easily and
properly be verified and monitored.
Notwithstanding the agreement entered between the Bank and the borrower, however,
loans and advance often fail to be repaid or recovered per the agreed schedule due to a
number of reasons. It is this reality that makes monitoring past due loans a continuous and
critical task with banking institutions.
One common and major technique used for the monitoring of past due loans is age
analysis and loan classification system by age. In this system past due loans are classified
under five different categories based on the age of the portion of the loan that has fallen in
arrears;
 Pass loans: Loans with arrears whose age doesn’t exceed 30 days
 Special mention Loans: Loans with arrears whose age is greater than thirty days
and less than ninety days;

 Substandard loans: Loans with arrears whose age is greater than ninety days and
less than one-hundred-eighty days;
 Doubtful loans: Loans with arrears whose age is greater than one hundred eighty
days and less than three hundred sixty days;
 Loss Loans: Loans with arrears where the age of the loan in arrears is greater than
three hundred sixty days.
It is, however, not only the volume and severity of the past due loans that is clearly
depicted under the above system as the classification is also used to assess the overall
health of the loan portfolio including loan loss provision requirement. The information
detailed above under loan classification can also be flexibly organized, prepared and
issued by product type, sector, region etc thereby easily leading itself for portfolio
management.
Although, loan classification can be handled manually it is the electronic system or

computer aided system that most facilitates and simplifies the task of monitoring past due
loans. Under such a system, processed data can be generated easily on a standard and
prescribed format and can be delivered in real time to all concerned for the necessary
action. It is also the responsibility of the Management Information System Process to
regularly supply such data and information on the amount and position of past due loans on
a strictly need-to-know basis.

II. Loan Impairment
2.1 General
A loan is "impaired" when, based on current information and events, it is likely that a
lending institution will be unable to collect all amounts due according to the contractual
terms of the loan agreement (I.e. principal and interest).
When a loan is impaired, the amount of impairment should be measured based on the
present value of expected future cash flows discounted at the loan's effective interest
rate (i.e. the contractual interest rate adjusted for any net deferred loan fees or costs,
premium, discount existing at the origination or acquisition of the loan). As a practical
expedient, impairment may also be measured based on a loan's observable market
price, or the fair value of the collateral, if the loan is collateral dependent. A loan is
collateral dependent if repayment is expected to be provided solely by the underlying
collateral and there are no other available and reliable sources of repayment.
If the measure of a loan calculated is less than the book value of that loan, impairment
should be recognized as a valuation allowance against the loan. In general, when the
excess amount of the loan's book value is determined to be uncollectible, this excess
amount should be promptly charged off against the allowance for loan losses. When a
loan is collateral dependent, any portion of the loan balance in excess of the fair value
of the collateral (or fair value less cost to sell) should similarly be charged off.
2. 2 Objective Evidence of Impairment
 Disappearance of an active market because an entity’s financial instruments are

no longer publicly traded,
 Downgrade of an entity’s credit grade,
 Decline in the fair value of a loan below its amortized cost,

 Significant financial difficulties of the borrower (e.g. as indicated by liquidity or
cash flow projections).
 Breach of contract.
 Probability of bankruptcy or financial reorganization of the borrower,
 Disappearance of an active market for the loan (s) because of financial difficulties
of the borrower,
 Granting of loan concessions to the borrower for reasons relating to his financial
condition.
2.3 Components of Loan Impairment
The allowance for credit losses reported on a bank’s balance sheet should consist of a
component for individual loan impairment and one or more components of collective
loan impairment recognized and measured pursuant to the financial status of the loan.
2.3.1 Individual loan impairment
 If the Bank evaluates or grades an individual loan as part of a credit risk

evaluation or grading process that loan has been identified for evaluation.
 When a loan has been identified for evaluation the Bank should make an explicit
decision as to whether or not the loan is individually impaired in accordance with
the loan position.
 If the Bank determines that an individual loan that was identified for evaluation is
impaired, the amount of the allowance for credit losses should be determined.
 If the identified for evaluation is not impaired the Bank should determine whether
there are other loans with similar credit risk characteristics and, if there are, the
loan should be included in a pool of loans that is collectively evaluated for
impairment.

2.3.2 Collective loan impairment
 The Bank should group into pools, based on similar credit risk characteristics,
all loan other than those that were individually determined to be impaired. Those
pools should be evaluated for collective loan impairment and include loans that
were individually evaluated and determined not to be impaired and loans that
were not individually evaluated. Loans that have been individually evaluated and
have been determined to be impaired, regardless of whether an impairment
allowance has been recorded, should not be included in those pools.
 A component of the allowance for credit losses based on historical charge-off
experience should be the primary basis for the recognition and measurement of
collective loan impairment for a pool of loans. However, the historical charge-off
experience component may need to be adjusted to remove the effects of
conditions in the historical period that do not exist currently. Here, changes in the
age of loans in a portfolio, changes in the business climate in a particular industry
or changes in economic conditions may require an adjustment.
 Each component of collective loan impairment should be supported with relevant
observable data. Observable data is relevant for the Bank if it is representative of
the component of collective loan impairment.
 The Bank may be unable to identify relevant observable data to support
recognition and measurement of a component of collective loan impairment. In
this case recognition of the component would be inappropriate and the Bank
should consider significant degree of estimation and judgment.

III. Debt Restructuring
Debt restructuring is carried out to maximize the Bank's chances of getting

repayment subject to the debtor’s ability to repay the loan, or in some other way
improve on the conditions set out in the original contract to both parties. In particular,
debt restructuring should be carried out to help debtors who have difficulties in loan
repayment due to the effects of an economic crisis but are expected to recover in
future.
3.1. Types of Debt Restructuring
There are three types of debt restructuring, namely general debt restructuring
or debt rescheduling, troubled debt restructuring and a combination of the
two. The details are described bellow.
3.1.1. General Debt Restructuring
This refers to debt restructuring whereby the Bank incurs no losses

from the restructuring of debt – for example, where the Bank has
granted concessions by reducing the interest rate to reflect changes in
market fundamentals or to maintain the relationship with the debtor by
extending the repayment period or granting a grace period whereby
the debtor continues to pay interest at the original contractual interest
rate where the Bank's analysis has shown that the debtor is able to
repay the full amount of the loan (principal and interest) as agreed in
the original loan contract.

3.1.2. Troubled Debt Restructuring
This refers to debt restructuring cases where the Bank incurs losses from
the restructuring due to one or a combination of the following:
(1) A reduction of the principal or accrued interest; or
(2) Loss from restructuring through acceptance of a transfer of assets in

debt repayment.
(3) Concessions in the terms of loan repayment resulting in a fall in the

present value of cash flows such that this value is lower than the sum
of book value of the credits outstanding and the accrued interest
thereon; or
(4) Loss from the debt restructuring calculations based on the market
value of the debtor’s business, the fair value of the collateral asset, or
loss from other techniques in debt restructuring such as from debt-to-
equity conversions.
3.1.3. Combination Approach of Debt Restructuring
A third type of debt restructuring combines receipt of assets and a

modification of terms.
3.1.3.1. Transfer of Assets to the Bank
The Bank that receives from a borrower in full satisfaction of the book
value of a loan assets (except long-lived assets that will be sold)
should record those assets at fair value. If the fair value of the assets
received is less than the institution's recorded investment in the loan, a
loss is charged to the allowance for loan and lease losses. When
property is received in full satisfaction of an asset other than a loan
(e.g. a debt security), the loss should be reflected in a manner

consistent with the balance sheet classification of the asset satisfied.
When long-lived assets that will be sold, such as real estate, are
received in full satisfaction of a loan, the real estate is recorded at its
fair value less cost to sell. This fair value (less cost to sell) becomes
the "cost" of the foreclosed asset.
3.1.3.2. Modification of Terms
When the terms of a restructured troubled debt provide for a reduction

of either interest or principal, the institution should measure any loss
on the restructuring in accordance with the guidance for impaired loans
unless the loans are measured at fair value or the lower of cost. If the
fair value of the restructured loan is less than the book value of that
loan, it requires impairment to be recognized as a valuation allowance
against the loan. This valuation allowance should be included as part
of the general allowance for loan losses. If the excess amount of the
loan's book value is determined to be uncollectible, this excess amount
should be promptly charged off against the allowance for loan losses.
The difference between the calculated fair value and the book value of
the Bank's restructured loan (which includes accrued interest, net
deferred loan fees or costs, and unamortized premium or discount) is
recognized by creating a valuation allowance with a corresponding
charge to the provision for loan losses. As a result, the net book value
of the restructured loan is reflected at fair value.
In some instances, the Bank may receive assets in partial rather than
full satisfaction of a loan or security and may also agree to alter the
original repayment terms. In these cases, the recorded investment
should be reduced by the fair value of the assets received and the
remaining investment accounted for as a restructuring involving
modification of terms.

3.2 Officers Report Treatment
Officers should continue to classify troubled loans, including any troubled

collateral dependent loans, based on the definitions of Loss, Doubtful, and
Substandard. When a loan is collateral dependent, any portion of the loan
balance, which exceeds the fair value of the collateral, should be promptly
charged off against the allowance for loan losses. For other loans that are
impaired or have been restructured, the excess of the book value of the loan
over its fair value (or fair value less cost to sell, as appropriate) is recognized
by creating a valuation allowance which is included in the allowance for loan
losses. However, when available information confirms that loans (including
any recorded accrued interest, net deferred loan fees or costs, and
unamortized premium or discount) other than collateral dependent loans, or
portions thereof, are uncollectible, these amounts should be promptly charged
off against the allowance for loan losses, regardless of whether an allowance
was established to recognize impairment.
It may at times be necessary to require an additional allowance for credit

losses for impaired loans over and above what is calculated in accordance
with the Bank's standards. However, an additional allowance on impaired
loans may be necessarily based on consideration of institution-specific
factors, such as historical loss experience compared with estimates of such
losses, the reliability of cash flow estimates, the quality of an institution's loan
review function, and controls over its process for estimating its allowance.
Generally, the content of loan default review should consist of the following
elements:
 Identification - Indicate the name and occupation or type of business of
the borrower. Cosigners, endorsers and guarantors should be identified
and in the case of business loans, it should be clear whether the borrower
is a corporation, partnership, or sole proprietorship.

 Description - The make-up of the debt should be concisely described as
to type of loan, amount, origin and terms. The history, purpose, source of
repayment and others should also be indicated.
 Collateral - Describe and evaluate any collateral, indicating the
marketability and/or condition thereof. If values are estimated, note the
source.
 Problem Summary - The comments should explicitly point out reasons

for the classification. Where portions of the loan are accorded different
classifications or are not subject to classification, comments should clearly
set forth the reasoning for the split treatment.
 Proposed Solution - Comments should include corrective program that

should be contemplated by management.
3.3. Debt Restructuring Procedures and Documentation
The Bank must draw up action plans and prepare the relevant documents in
each stage of the debt restructuring.
3.3.1. Preliminary Analysis and Documentation
The following information and documents must be included to evaluate the

restructuring of a loan agreement.
1) Details of the cause of debtor’s credit difficulties and delayed payments

of the principal and/or interest.
2) The extent of the problem or cause of the debtor’s credit difficulties, the
borrower’s financial risk, taking account of the borrower’s financial
statements, and financial forecasts, as well as an assessment of
market conditions and other factors relevant to the debtor’s business
and financial prospects.

3) The expectations or likelihood of full repayment (principal and interest)
under the original loan and under the restructured loan contracts.
4) An evaluation of the borrower’s management focusing on their

efficiency to ascertain if there is a need for an external expert’s help in
organizational restructuring - for example, the changing of directors,
managing directors, or the managerial approach.
5) The completeness and adequacy of the documents and loan criteria

used in the restructuring process.
6) If applicable, the collateral valuation as per the Bank's regulations.
7) The methodological approach and assumptions used to project future

cash flows and calculate present values.
8) The analyses, the conclusions, and the recommendations for the

modification of terms such as reducing the interest rate, principal, and
accrued interest, and extending the repayment period.
Note that the terms and conditions in the modification of terms must
take account of the economic life of the debtor’s business project(s).
Modification of terms must be within the debtor’s repayment capacity
such that the debtor is able to service the loan to its maturity.
9) A revised amortization schedule reflecting the modified terms which is

within the debtor’s ability to repay.
10) Details and any remarks regarding the terms and conditions of the loan
including any financial covenants in the loan contract, for example, with
regard to capital write-downs, recapitalizations, or where financial
institutions specify the right to increase interest rates in the future in
line with the debtor’s capacity to repay the loan (should circumstances
improve).

11) Legally enforceable contract and relevant documents must be
prepared and signed.
12)In cases where the Bank grants additional loans to debtors with impaired
loans, it must clearly state the purpose and use for which the additional
loan(s) is intended. There must be no implication that the additional loan is
intended for servicing an existing loan.
3.3.2 Follow-up Procedures and Documentation
The Bank must have follow-up procedures to monitor restructured loans

which are in accordance with the requirements set out. This is to ascertain
whether debtors are able to repay their debts as agreed in their revised
contracts.
1) Progress reports must be prepared monthly by the designated officer

detailing the latest developments in the firm, current action plans, and
the likelihood of full repayment.
2) The Bank must also require debtors to provide it with financial

statements, and to report the effects of the measures undertaken as
part of the restructuring process such as capital write-downs,
recapitalizations, and the withholding of dividends.
3) The Bank must set out guidelines for actions to be taken if debtors
have further difficulties with repayment after restructuring.

Section II
I. Review System
The term review system in general refers to the responsibilities assigned to various areas
such as credit approval, loan administration, problem loan workout, or other areas. In this
specific case, however, the definition is restricted to problem loans only. The complexity
and scope of the review system will vary based upon an institution's size, type of
operations, and management practices. Systems should include components that are
independent of the lending function, or may place some reliance on Credit Process
Officers. Although a separate review unit may not be warranted for the time being, it is
essential that an effective problem loans review system is maintained. Further, regardless
of its complexity, an effective review system should generally address the following but not
limited to:
 Promptly identify loans with well-defined credit weaknesses (management,
market, etc.) so that timely action can be taken to minimize credit loss;
 Identify relevant trends affecting the recovery of the loan portfolio and isolate
potential problem areas;
 Evaluate the activities of Credit Process officers;
 Assess the adequacy of, and adherence to, loan policies and procedures, and to
monitor compliance with relevant laws and regulations;
 Provide the Management with an objective assessment of the overall credit

quality that can be used for financial and regulatory reporting purposes;
 Provide essential input which helps to improve future credit risk analysis;
 Ensure the integrity of financial reports;
 A formal credit grading system that can be reconciled with the framework
established by the institution and regulatory agencies;
 An identification of loans or loan pools that warrant special attention;
 A mechanism for reporting identified loans, and any corrective action taken, to
senior management; and

 Documentation of the institution's credit loss experience for various components
of the loan portfolio.
1.1 Credit Grading
Accurate and timely credit grading is a primary component of an effective review

system. Credit grading involves an assessment of credit quality, the identification of
problem loans, and the assignment of risk ratings. An effective system provides
information for use in establishing valuation allowances for specific credits and for the
determination of an overall loan level.
Credit grading systems often place primary reliance on Credit Process officers for
identifying existing and emerging credit problems. However, given the importance and
subjective nature of credit grading, an officer's judgment regarding the assignment of a
particular credit grade should generally be subject to review. Hence, the result of the
review undertaken by officers on individual loans should be assessed by Credit
Process Owner before the final result is forwarded to the Risk Management Process
for further review and consolidation for management consumption.
1.2 Loan Appraisals
One of the areas that may need to be closely scrutinized in the attempt made to clearly
identify the reasons behind loan default is loan appraisals and the appraisal process. In
the appraisal of individual loans, the review work should weigh carefully the information
obtained (market, management, assumptions, etc.) and arrive at a judgment as to the
credit quality of the loans under review.
Each loan is appraised on the basis of its own characteristics. Consideration is given to
the risk involved in the project being financed; the nature and degree of collateral
security; the character, capacity, financial responsibility, and track record of the
borrower; and the feasibility and probability of its orderly liquidation in accordance with
specified terms.

The willingness and ability of a borrower to perform as agreed remains the primary
measure of the risk of the loan. This implies that the borrower must have earnings or
liquid assets sufficient to meet interest payments and provide for reduction or liquidation
of principal as agreed at a reasonable and foreseeable date. However, it does not
mean that borrowers must at all times be in a position to liquidate their loans, for that
would defeat the original purpose of extending credit.
Following analysis of specific credits, it is important that the reviewer ascertain whether
troublesome loans result from inadequate lending and collection policies and practices
or merely reflect exceptions to basically sound credit policies and practices.
In instances where troublesome loans exist due to ineffective lending practices and/or
inadequate supervision, it is quite possible that existing problems will go uncorrected
and further loan quality deterioration may occur. Therefore, the review should not only
identify problem loans, but also ascertain the cause(s) of these problems. Weaknesses
in lending policies or practices should be stressed, along with possible corrective
measures, in discussions with the Bank's Management.
Effective management of project financing risk is highly dependent on the quality of

analysis during the approval process and after the loan is advanced. Hence, the review
work should focus on the analysis of the following as a minimum requirement, i.e.
whether or not
 The cash flow analysis of the project under scrutiny has relied on an overly optimistic
or unsubstantiated projection of sales, margins etc.
 The projection was stress tested for one or two downside scenarios;
 Performance was reviewed quarterly to determine variance from financial plans, the
risk implications thereof, and the accuracy of risk ratings and accrual status;
 The collateral valuation was derived with a proper degree of independence and has
considered potential value erosion;
 Potential collateral shortfalls were identified and factored into risk rating and accrual
decisions.

1.3. Loan Covenants
Loan covenant is defined as a condition that the borrower must comply with the
terms in the loan contract agreement. If the borrower does not act in accordance
with the covenants, the loan can be considered as default and the Bank has the right
to demand the net amount of the loan.
Restrictive covenants, as in loan contracts, could go a great length to curtail

malpractices in the utilization of project finance, create awareness on the part of
borrowers and employees and in general safeguard the interests of the Bank and
client. Assessment of the strength of covenants, therefore, should form one of the
key areas of work under the review exercise.
II. Core Elements of the Review System
Risk Management Process should maintain a written problem loan review procedure
that is reviewed and approved at least annually by the Management. The procedure
should include a written description of the overall credit grading process, and establish
responsibilities for the various review functions. The procedure should generally address
the following items:
2.1. Qualifications of Loan Review Personnel
Personnel involved in the problem loan review function and especially those at
higher level, i.e. Risk Management Process, should be qualified based on level of
education, experience, and extent of formal credit training.
They should be knowledgeable of both sound lending practices and their own
institution's specific lending guidelines. In addition, they should be knowledgeable of
pertinent laws and regulations that affect lending activities.

2.2. Independence of Loan Review Personnel
Credit Process officers should be responsible for ongoing lending process and the
prompt identification of existing and emerging problems. Because of their frequent
contact with borrowers, Credit Process officers can usually identify potential
problems before they become apparent to others. However, there must be
segregation of duties (check and balance) at different levels in identifying, analyzing
and reviewing defaulted loans.
Accordingly, the individual and summarized review work by CP officers should be

closely examined by the Credit Process Owner before its final release to the Risk
Management Process for further and detailed scrutiny.
2.3. Frequency of Reviews
The review function should provide feedback on the effectiveness of the lending
process in identifying existing and emerging problems. Reviews of significant credits
should generally be performed at least quarterly, or more frequently when factors
indicate a potential for deteriorating credit quality.
2.4. Scope of Reviews
Reviews should cover all loans that are considered significant and unhealthy. In
addition to loans over a predetermined size, Management will normally review those
loans that present elevated risk characteristics such as credits that are delinquent,
and frequently rescheduled and renewed ones. The percentage of the portfolio
selected for review should provide reasonable assurance that all major credit risks
have been identified.

2.5. Depth of Reviews
Reviews should analyze a number of important credit factors, including but not limited
to:
 Proper loan appraisal;
 Proper loan approval;
 Sufficiency of credit and collateral documentation and perfection;
 Adherence to loan agreements,
 Compliance with internal policies and procedures, and applicable laws and
regulations and
 The accuracy and timeliness of credit grades assigned by CR officers.
2.6. Report Preparation and Distribution
Any existing or planned corrective action (including estimated timeframes) should be

elicited for all noted deficiencies in due course. All deficiencies that remain unresolved
should be reported to the President as well as to the Board of Management.
A list of all problem loans reviewed, including the date of the reviews, and
documentation supporting assigned ratings, should be prepared by Risk Management
Process. A report that summarizes the results of the review should be submitted to the
management at least quarterly. For those loans which constitute 5% of the Bank's paid-
up capital, the review and report submission should, however, be done on monthly
basis.
Findings should address adherence to internal policies and procedures, and applicable
laws and regulations, so that deficiencies can be remedied in a timely manner.

III. Specific Procedure for the Analysis of Defaulted Loans
 Loan quality assessment should be undertaken regularly and at least quarterly by
all operational units on all loans advanced and administered by the unit and such
assessment should also be undertaken on monthly basis for loans that exceeded
5% of the Bank's capital;
 The independence of the officers checking loan adequacy should be ascertained

by ensuring that officers do not review loans directly falling under their
management;
 The report on individual loans should be accompanied with the factors that
contributed to the default;
 The loan review regularly undertaken should clearly specify the new or updated
classification of each loan per its current status and loan quality;
 The update classification should tally with regulatory provisioning requirements

and other basic procedural requirements like the checking of issues like collateral
valuation and adequacy, documents completeness, etc ;
 The findings of the officers should be submitted to the respective unit for review
and appropriate actions;
 The review work at individual officer level and later at Process level should
include actions taken per earlier review recommendation, results obtained from
earlier recommendations together with the latest recommendation forwarded for
future action;
 Analysis of loan default review, finally undertaken by the Risk Management

Process, should preferably but not necessarily be undertaken based on the
review report of operational units
 The review undertaken by the Risk Management Process shall be based on

sample selection but care should be taken to ensure that the sample includes at
least all problem loans starting from special mention loans;
 Issues that should be part and parcel of the overall loan review work at this level
include adherence to bank policy and procedures, quality of personnel,
weaknesses related to covenants, loan terms etc including clear identification of

policy or procedure abrogated, if any, that might have led to the default or
problem;
 The final report of the Risk Management Process shall make sure that all
adequate and procedural care has been taken to recover the loan, like collateral
checking and revaluations, provisioning, covenants strengthening, etc. The
detailed procedures for the evaluation of loan quality, by the Risk Management
Process, should include, but is not limited to, a review of:
 The level, distribution, and severity of classified loans including an analysis of

classified loans to total assets and capital including compliance with the
maximum classified assets to capital ratio and other appropriate ratios;
 The adequacy credit underwriting standards and practices, and the quality of
loan documentation;
 Bank's loan loss valuation methodology and charge-off policies including past
charge-off and reserve experience;
 Ability to identify, administer and collect problem credits;
 Nature and volume of special mention loans;
 Comprehensiveness of and adherence to lending policies;
 Adequacy of credit administration and problem loans.

Risk Management Process
Format for Reviewing Defaulted Loans
Operating Unit ____________ Reporting period____________
I. Background Information
1.1 The Applicant
1.1.1 Name
1.1.2 Address
Region------------------- Town --------------------------
K. Ketema ---------- Kebele -------- House No.-------
Telephone ----------------- P.O. Box -------------------
E-mail ------------- Web site ----------------------------
1.2 The Project

1.2.1 Name -----------------------
1.2.2 Type -------------------------
1.2.3 Address
Region ----------- Town--------- K. Ketema -------- Kebele -----House No.
----------------------
Telephone ----------------- P.O. Box--------------
E-mail ------------- Web site-----------------------
1.3 Legal Form of Business --------------------

1.4 TIN/VAT Registration number -----------
1.5 Objective of the Project -----------------------
II. The Loan and Credit Information
2.1 The Loan

2.1.1 Amount of Loan Approved (Birr) -------------
2.1.2 Purpose of the Loan -----------------------------
2.1.3 Date of Original Loan Contract ------------------
2.1.4 Amount of Loan Disbursed (Birr) ----------------
2.1.5 Original Repayment Program as Stated in the Loan Contract
2.1.5.1 Principal Loan Repayment Starting
Date ----------

Final Loan Repayment Date ----------------
2.1.5.2 Interest Payment Starting Date ------------
2.1.5.3 Others ---------------
2.1.5.4 Pre-credit risk grading ----------------------
2.2 Credit Information

2.2.1 With DBE, as at--------------------
'000 Birr
Total Outstanding Arrears Commitment
Balance
Principal Interest Total Principal Interest Total
2.2.2 If the project is rescheduled, for how many times and amount
rescheduled
-----------------------------------------------------------
2.2.3 With Other Banks, as at ------------------
Name of Type of Total Outstanding Arrears Commitme

the Bank Loan nt Balance
Princip Intere Total Princip Interest Total
al st al
2.3 Loan Classification as per NBE Directive --------------

2.4 Borrower's Risk Grade as per Post Credit Measurement/ Rating Criteria of the
Bank ------------------

III. Security Held for the Loan
3.1 Type of Collateral ------------------------

3.2 Address of the Mortgaged Item
Region----------------- Zone----------------- Town -----------
K. Ketema------------ Kebele ----------- House No. ---------
3.3 Estimated Value of the Collateral (Birr) --------------------

3.4 Date of Collateral Estimated ---------------------------------
3.5 Collateral Estimation Made by ------------------------------
3.6 Collateral Coverage against the Loan Approved (%)------
3.7 Details of Marketability of all Collateral Held, Its Market Value and the
Basis of that Valuation -----------------------------------------
---------------------------------------------------------------------

IV. Loan Documentation
List all loan documentation held, confirm that the documentation is in accordance with the
original approved terms and conditions of the approval and state whether it is considered
complete and enforceable. The implications of any imperfections in the documentation
should be clearly stated and the action to be taken should include plans for rectification.
…………………………………………………………………………………………………………
…………………………………………………………………………………………………………
……………………………………………….

V. Evaluation of Project Performance
In this section analysis and comparison between the planned and actual performance of
the project will be discussed in details.
5.1 Production/Service, Market and Market Arrangement

5.1.1 Production/Service and Sales Performance (in Birr
& foreign currency)
5.1.2 Marketing Arrangement
5.1.3 Price of Input and Output
5.2 Technical Status

5.2.1 Plant Layout and Civil Work
5.2.2 Machinery and Equipment
5.2.3 Capacity & Capacity Utilization
5.2.4 Availability of Utilities
5.2.5 Availability of Raw Material
5.2.6 Project Implementation Schedule
5.3 Organization, Management and Manpower

5.3.1 Organization & Management
5.3.2 Availability of the Required Manpower
5.4 Financial Performance

5.4.1 Project Financing
'000 Birr
Item Plan Actual Variance
Foreign Local Total Foreign Local
Cost Cost Cost Cost Total Value %
5.4.2 Source

'000 Birr
Total
Item Debtors Equity Actual Cost
5.4.3 Financial Results

5.4.3.1 Profitability of the Project (Income Statement)
5.4.3.2 Liquidity of the Project (Cash Flow)
5.4.3.3 Asset and Capital Structure (Balance sheet)
5.4.3.4 Collateral Coverage in Value & Percentage
5.4.3.5 socio-economic impact assessment
VI. Significant Events since Approval of the Loan/Most Recent

Loan Review
…………………………………………………………………………………………………
…………………………………………………………………………………………………
…………………………………………………………………………………………………
……………………………………………………………..
State all relevant both adverse and beneficial which may have impact on the ability
of the borrower to repay or service the loan and which have occurred since the date
of loan was approved or the date of most recent approved loan review.
…………………………………………………………………………………………………
…………………………………………………………………………………………………
…………………………………………………………………………………………………
……………………………………………………………..
VII. Specific Reasons for Classifying the Loan as Defaulted Loan

…………………………………………………………………………………………………
…………………………………………………………………………………………………
…………………………………………………………………………………………………
…………………………………………………………………………………………………
……………………………………………………………………………………

State the specific reasons why the loan has been classified as defaulted loan e.g.
unpaid principal and interest on the due date, incomplete or imperfection of
documentation, cash flow considered insufficient to continue to service/repay the
loan, diminution of market value of collateral, adverse industry/environment
conditions, etc.
i) --------------------------------------------------------------------------
ii)--------------------------------------------------------------------------
iii)-------------------------------------------------------------------------
VIII. Action Strategy
State specifically the strategies which are proposed to pursue to maximize recovery
of the outstanding e.g. change of management , take further collateral ,debt
restructuring, providing additional loan, sales of collateral or other assets, etc.
…………………………………………………………………………………………………
…………………………………………………………………………………………………
…………………………………………………………………………………………………
…………………………………………………………………………………………………
……………………………………………………………………………………

IX. Action Steps and Dates
State specific and pro-active steps which are recommended the Bank take prior to the next
schedule action plan date in order that the above strategy may be successfully realized e.g.
obtain up-to- date information on borrower, amend agreement, obtain market valuation of
borrower's assets, take new mortgage, take possession, sell security, etc. This section
should state precise dates by which these action steps are to be achieved.
…………………………………………………………………………………………………………
…………………………………………………………………………………………………………
…………………………………………………………………………………………………………
……………………………………….

X. Recommendation
We recommend implementation of the above action strategy and action steps to maximize
recovery of the outstanding debt.
Name & Signature of Project Rehabilitation & Loan Recovery Team:
------------------------------ ------------------ -- ---------------------

Name Signature Date
Name & Signature of Main Branch Manager:
Project Rehabilitation & Loan Recovery Process Owner comments:

-------------------------------------------------------------------------------------------------------------------------
-------------------------------------------------------------
Approved/Rejected
Project Rehabilitation & Loan Recovery Process Owner :
------------------------------ ------------------ -- ---------------------

Name Signature Date

Due Deligency Gideline

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Development Bank of Ethiopia

Loan Process Guidelines

1. Due Diligence Assessment Guidelines

2. Project Appraisal Guidelines

3. Regulation of the Loan Approval Team

4. Pre and Post Credit Risk Measurement/Rating Criteria

5. Procedure for the Separate and accelerated Supervision

6. Additional Loan Appraisal Guidelines

7. Procedure for the Analysis of Defaulted Loans

2. Project Appraisal Guidelines 22 - 56

3. Regulation of the Loan Approval Team 57 - 67

4. Pre and Post Credit Risk Measurement/Rating Criteria 68 - 89

5. Procedure for the Separate and accelerated Supervision

6. Additional Loan Appraisal Guidelines 101 - 110

7. Procedure for the Analysis of Defaulted Loans 111 - 142

Due Diligence Assessment Guidelines

1.2. Objective of Due diligence

In many ways, a business is like an individual, it has a past, a culture and

Searching for undisclosed litigation or regulatory problem verifying

2. Customers Due diligence for Banks

Supervisors around the world are increasingly recognizing the importance of

In reviewing the findings of an internal survey cross-border banking in 1999, the

KYC is most closely associated with the fight against money-laundering at

KYC require banks to formulate a customer acceptance policy and a tiered

In general, it is important to know these risks are interrelated.

1. Customer Acceptance Policy

2.1. General Identification Requirements

2.2. Specific Identification Issues

1. FATF is “Financial Action Task Force “. It is inter governmental body

4. Politically Exposed Persons

In countries where corruption is widespread, there is a possibility to abuse their

III. Due diligence Guideline of DBE

1. Name and Address of the Promoter and the Project

2. Legal Status of the Promoter (Person or Company)

The importance of establishment date is seen from the following angles.

The need for Article & Memorandum of Association:

The Importance of Knowing Marital Status (Sole proprietorship)

Importance of Trade License

The Importance of Principal Registration License

The Need for Title Dead of the Vehicle

Status of the Project (Existing or New)

3. Track Recording of the Share Holder

4. Organization and Management Evaluation

Competency & Characteristic of the Management Team:

6. Financial Requirement of Investment

Other Sensitive Issues

ASG, “Due Diligence & Business Background Check”, Internet.

Basel Committee, “Directive on Customer Due Diligence for Bank”, Internet

Basel Committee on Banking supervision, “Customer due diligence for Banks”,

Development Bank of Ethiopia, “Due diligence Format”, The Bank policy.

PROJECT APPRAISAL GUIDELINES

BUSINESS PROCESS REENGINEERING

Appraisal is the comprehensive and systematic assessment of all aspects of a

Financial institutions normally make their own appraisal of projects presented to

Usually, the techniques applied to appraise projects center around technical,

1.2. Objective of the Guidelines

2.1 Background Information

2.2 Success and Risk factors