Credit is defined as the amount of money available which can be borrowed by an individual or company whom is to be paid back to the lender after a certain period of time. The borrower has to pay back the money under certain terms and conditions set by the lender as far as the time period and rate of interest is concerned.
Credit risk is the risk which the borrower may default on any type of loan or debt in case he fails to make the required payments. This risk is of the lender who bears the lost amount due to the inability of the borrower to pay the principal and the interest. This may also include hindrance in the flow of cash and the rise in the cost of collection. The loss which is taken by the lender can be partial or complete which can be due to the result of many circumstances.
Credit risk management and its importance
Credit risk has been a major concern for institutions offering services for giving credit but it has not been managed in an effective manner. This has been proved by the financial crisis which came in the year 2007 which actually exposed the condition of the existing risk management systems. As far as the management of the risk by these financial institutions were concerned there were a number of short comings.
The true picture of the credit risk management was brought into focus by effective products such as securities which were backed by mortgages and debt management. The main thing was that a number of firms very well acquainted with these products without even understanding the risk involved.
The management of credit risk is done with the help of many methods which includes Credit portfolio models, internal ratings, exposure limits etc.
The finance department plays a very important role in the dispersion of the amount which is done while keeping in mind the different terms and conditions set by the lending body.
The main functions of the finance department
Controlling the expenditures
• The finance department controls the cost involved in meeting the various expenses. This includes the operating expenses besides the payroll and debts.
•This involves the control and operation of the investment of all sort of financial transactions.
•Over here the finance department takes into consideration the assets and the expenditures of the projects.
•This could be internal which is within the department or could be external.