This document provides an overview of various risk analysis concepts and financial metrics used to evaluate risk. It discusses red flags analysis, risk methodology for manufacturing companies, ratio analysis, DuPont analysis, important credit ratios, currency and capital account convertibility, working capital, drawing power, and the London Committee on working capital. The key topics covered include identifying business, financial, governance, and accounting risks; evaluating industry, business, financial, and management risks; and analyzing ratios related to profitability, leverage, liquidity, and operating performance.

1. INDEX
1. RED FLAGS
2. RISK
3. RATIO ANALYSIS
4. ACCOUNTING PERIOD
5. DU PONT ANAYSIS
6. DEFERRED TAX
7. CREDIT RATING
8. IMPORTANT KEY RATIOS
9. CURRENCY CONVETIBILITY
10. CURRENT ACCOUNT CONVERTIBILITY
11. CAPITAL ACCOUNT CONVERTIBILITY
12. WORKING CAPITALTONDON COMMITTEE

2. RED FLAGS
Red Flags analysis comprises credit,
debt etc
SEBI has introduced RED FLAGS
Red Flags are identified into 4
category:
1. Business & Management
2. Corporate governance risk
3. Accounting risk
4. Financial risk

3. Business & management risk:
• Promoters & key mngt. Their
personal track records
• Aggressive growth policy
• Complicated business structure
• High customer concentration
Financial Risk:
•Quality of CF generation/earning ratio
•Difference in w.c
•Large amt of cash lying idle.
•Sales generation on capital employed
•Change in cash sales
•Intangible asset as part of total asset.
Corporate governance Risk:
•Concentration of promoters holding
•Quality of board & their independence
•T/O of senior mngt.
•Mngt. Compensation package

4. Risk Methodology for Mfg co.
 Credit analysis of an entity begins with a review of the Economy/Industry in
which the entity operates along with an assessment of the business risk factors
specific to the entity.
1. Economy & Industry Risk:
The economic/industry environment is assessed to determine the degree of
operating risk faced by the entity in a given business.
(key ingredients of industry risk.)
Investment plans of the major players in the industry,
demand-supply factors,
price trends,
changes in technology,
international/domestic competitive factors in the industry,
entry barriers,
capital intensity,
business cycles etc

5. 2. Business Risk Analysis:
Few parameters involved in assessing business risk:
• Diversification
• Size
• Seasonality & cyclicality
• Cost structure
• Market share
3. Financial Risk Analysis:
Financial risk analysis involves evaluation of past and expected future
financial performance with emphasis on assessment of adequacy of cash
flows towards debt servicing.
•Cash Flows
•Financial Ratios
•Financial flexibility
•Validations of projects & sensitivity analysis
4. Management Evaluations.

6. Project Risk
 It is any factor that may potentially interfere with
successful completion of the project.
 It is not an problem but recognition that a problem
may occur.
 Types:
1. Expansion
2. Debottlenecking
3. Backward/Forward integration
4. Diversification

7. Leverage Buyouts
 In LBO the acquirer anticipates that loans can be
quickly repaid through the disposal of non-core
assets that the target holds.
 Risks involved:
 Carry out the sale of non core asset or value is lower then previous
anticipation.
 Considering the country’s regulatory, social & law and other
situations which can be unfavorable.

8. RISK
Risk evaluation & Fundamentals of
credit risk assessment
Risk assessment broadly involves two
steps:
Identification
of Risk
Risk Mitigation

9. Industry Risk
Tools to evaluate:
 Poter’s 5 forces.
 Herfindahl Hirschman Index.
 N-Firm concentration.

10. Ratio Analysis
 It is an Quantitative Tool use to
interpret the Financial statement in
terms of operating performance &
Financial position of the firm.
• Efficiency ratio
• Profitability ratio
Operating
performance ratio
• Liquidity ratio
• Leveraged ratio
Risk Analysis

11. VALUATION RATIO:
•P/E ratio
•Earning-growth ratio
•Price to book ratio
•Price to sales ratio
•Enterprise value (EBITDA )
•Price to cash ratio
Ratio from credit point of view:
•Interest coverage ratio
•Debt service coverage ratio
•Current ratio
•Quick ratio
•Debt-Equity ratio
•Overall gearing ratio

12. DU PONT ANALYSIS
Profitability
(N.P.)
Operation
Efficiency
(TOTAL ASSET T/O)
Leverage
(financial leverage)
It is an
mathematical
expression that
can be used to
analyze return on
equity in details.

13. Last Fiscal
year
Trailing 12
months
Leading
12 months
Accounting Period…
Deferred Tax…
Time
Difference
Permanent
Difference

14. Important Key Ratios
-Banking point of view..
 Net Interest Income
 Net Interest margin
 Capital Gearing Ratio
 Tier 1 CAR
 Credit/Deposit ratio
 ROTA
 RONW
 Gross Advance
 Net NPA
Net NPA to Tangible net worth
Cost to Income Ratio
CASA Proportion
Yield on Advances
Cost of Deposit
Core Spread
Gross NPA
For comparison:
•Current Ratio
•Debt-Equity Ratio
•Asset T/O Ratio
•Return on capital employed
•Inventory T/O Ratio

15. Credit Rating
 C.R are independent opinion about relative
credit risk.
 C.R are not investment advise or buy hold
or sell recommendations.
Rating Scale
Long term Short Term
 Investment Grid
Non-Investment Grid

16. Rating Risk
Weight
 AAA 20%
 AA 30%
 A 50%
 BBB 100%
 BB,C,C
150%
 Unrated 100%

17. Sovereign Rating
 Assessment of sovereign creditworthiness i.e.
sovereign’s capacity & willingness to honor its
exiting & prospective debt obligation in timely
manner.
 Rating is evaluated on the basis of
score arrived on parameters below: Political
External
finance
Macro-
economic
Fiscal
sustainability

18. Currency Convertibility
Freedom to convert domestic currency into
international expected currency & v/v.
Current account convertibility
Freedom in respect of payment & transfer for
current international transfer

19. Capital account convertibility
 Freedom of currency conversion in relation to
capital transfer in term of inflows & outflows.
CAC in India
FULL CAC

20. WORKING CAPITAL
1. w.c cycle = (CA-CL)*365 / net revenue
2. Net w.c = (CA – excess cash) – CL
Methods of w.c :
1. Operating cycle = debtors + stock - creditors
2. Cash conv. Cycle = cash + cash + cash
inventory receivables payables

21. Drawing power
 Drawing Power is the amount of Working Capital funds the
borrower is allowed to draw from the Working Capital limit
allotted to him.
 Concept of drawing power is generally applicable on CC
accounts.
 It is calculated by considering the total value of paid stock
 (Paid stock=Stock fewer Creditors) + book debts (not more
than 90 days old) & deducting margin from the same

22.  An committee appointed by RBI for advising
to FIX MPBF for borrower.
 Developed in 1975
 Recommended 3 methods.
1. Borrower’s to buy 25% of net w.c
2. Borrower’s to buy 25% of c.a
3. Borrower’s to buy 25% of core c.a

23.  In 1993, committee recommended
fixation of credit limits of small entities
on the basis of projected turnover i.e.
w.c limits up to 25% of projected
turnover.