Why is writing effective credit memos so vexing? Given that a credit memorandum is one of the most critical documents in the life of the loan, it would seem like a straightforward process.
However, lenders, credit analysts, and other banking staff frequently seek tips for writing better credit memos.
One reason they do is that writing an effective credit memo is important. The loan committee uses the credit memo in deciding whether to approve the loan, so the lender wants to put forth an accurate and complete picture of the borrower -- not only for the borrower’s sake, but also for the financial institution’s risk management. At the same time, this document can become extremely complex and large because it has a lot of data coming from various sources.
Lenders and credit analysts take borrower information, financial ratios, any global cash flow analysis, the assigned risk rating, proposed loan pricing, and terms of the proposed loan, and must organize all of this into a cohesive credit memo.
This information will then be used for the initial loan decision as well as for modifications, renewals, or annual loan reviews later on.
In addition, all of this data collected during the loan application and credit analysis should be put together in a way so that credit reviewers or supervisory agencies are able to reach the same decision the financial institution did and access the supporting documentation. Not surprisingly, many bankers find the task to be a difficult one.
Templates are critical for efficiency and effectiveness in writing credit memos, according to Alison Trapp, Abrigo’s Director of Client Education. “Everyone knows where to look for a certain piece of information,” she says. An automated credit analysis solution that can create customizable credit memos can also help financial institutions incorporate four traits that effective credit memos have.
Trapp outlined the four traits in a recent webinar, “Writing Effective and Efficient Credit Memos.” The four traits are:
Effective credit memos are clear
Using specifics and staying away from adjectives in the writing can help credit memos be more effective.
Trapp notes that one person’s definition of a tall man might be 5 feet 11 inches, while another’s might be 6 feet 9 inches. “When you’re writing a credit memo, think about the phrase, ‘significant decline in revenue.’ Stay away from that adjective and instead, give more facts,” she says.
Avoiding jargon is another way to make credit memos more clear and thus, effective. It might be tempting in some industries, such as healthcare or technology, to use a lot of jargon, but that might make it difficult for those outside the industry to follow along, and it might be cluttering up the content.
Effective credit memos are concise
Trapp says focusing on your audience or audiences and their needs will help shape the content of the memo.
Remember that only the salient points need to be included. One common problem with credit memos is that the writers don’t edit out unnecessary information.
“You can’t put everything in there and expect your approver to pull out the relevant points just because you want to cover your bases,” she says. “It’s part of your job to make sure your approvers know what the key elements are to the credit memo.”
Being concise also means choosing words carefully and using the fewest words without sacrificing clarity, she says. Reviewing the memo for opportunities to use simpler words is another idea. “Maybe in college or high school you were incentivized to use more words to get to the word count,” Trapp says. “That’s not the point of a credit memo.”
Effective credit memos are relevant
What are the relevant points to include in a credit memo? Trapp recommends looking for the drivers or impacts of various data points, because they usually tell a story. One way to identify the drivers, she says, is to repeatedly ask and answer the question “why?” In other words, if sales for the borrower went up, describe why. If it was because customers bought more, describe why. If that was because a new version of the product was delivered, describe why. After doing that, the credit memo might, therefore, describe the driver of a sales increase by saying, “Sales went up because customers wanted the additional features in the new version.”
Asking “so what?” helps identify impacts. For example, by asking and answering that question about cash flow, the memo writer might be able to explain that the applicant’s cash flow decreased in the period despite a sales increase due to a new, bigger customer with longer payment terms than the typical customer.
Effective credit memos are organized
Most listeners and readers tend to remember most accurately the first and last things they hear or read. Organizing credit memos with that in mind can help create more effective credit memos.
Trapp says a potential executive summary at the beginning of a memo could include the recommendation, why the institution would want to make the loan, what could go wrong and the transaction structure. At the end of the memo, the risk rating analysis could include an affirmation of the rating, the positives and negatives, and the triggers to change the rating, assuming a pass rating for a new deal.
Surprisingly, many banks and credit unions are still creating credit memos by copying and pasting information from previous documents and from their various data sources. Some might use and re-use templates this way, but that still requires proofreading to make sure a previous client’s data wasn’t inadvertently left in a field.
Often, financial institutions will use an old version of a credit memo and just add a new section to it, without cutting anything, and this can contribute to excessively long memos.
Using an automated credit memo solution that allows the financial institution to customize the memo template helps standardize credit memos, which can be helpful in some cases. Loan committee members who always know where to look in a memo for certain information may be able to review memos more efficiently.
An automated solution for credit memos can also make it easy to review the format periodically to make sure the template is streamlined and meets the needs of the various audiences. Doing this annually is a good idea, Trapp says.
“Understand why you organize the credit memo the way you do,” she says. “Sometimes it just doesn’t make sense according to the four best practices.”
To learn about more best practices for credit analysts, join the webinar, "Credit Union Best Practices for Credit Analysts," Sept. 10, 2019, at 2 p.m. ET/1 p.m. CT