Do the 5 C’s of Credit Still Matter?

College textbooks once defined credit as “a medium of exchange of limited acceptance.”

A what?!

Let me say that in a different way: For every credit transaction, there is a passage of time before repayment of the debt occurs. Credit has “limited acceptance” because every credit transaction includes elements of risk and time. Those elements are the “dash in between,” as they say, and are what matters most with the transactions.

The fact is that the United States runs on credit.  And financial institutions must make correct credit decisions 99.5% of the time to remain viable so they can (a) serve their communities, (b) provide a return on investment for their stakeholders, and (c) facilitate financial transactions in a reliable, secure, and efficient manner for consumers and businesses.

But you knew that already.

99.5% success is a high threshold to maintain. To meet that standard on a consistent basis, the credit industry needs to blend experience with the right tools. The right tools need to be used at the right time and the tools need to evolve and be modernized with knowledge gained from experience.

Not only do credit/banking schools teach us about the 99.5% rule, but they also teach us about the 5 C’s of Credit as an experience-based and reliable industry tool.

The 5 C’s Unpacked

Early in lending careers, one is exposed to the concept of the 5 C’s of Credit. These concepts form a foundation of how and when credit decisions are made, and they are based on experience gained over decades of credit risk management.

If you’re reading this, you likely already know the C’s, right? They include Character, Capacity, Capital, Collateral, and Conditions. All solid factors that tend to be reprioritized over time based on the economic cycle.

According to the 2024 RMA CRO Outlook Survey, we are "in a fast-moving world where multiple and changing exposures can make managing risk feel like playing zone defense."  I encourage you to review the key takeaways from the study as it highlights industry priorities based on how peer risk leaders and institutions are balancing their time and attention.  

Especially interesting to me was "Takeaway #4: The impact of technology on the speed of risk is now seen as a significant emerging risk." While that takeaway is focused on emerging risk from deposit-related issues connected to technology, loans, and deposits are tied at the hip (as they say). So, what should credit risk professionals be focused on as technology becomes more embedded in credit decisions and the subsequent management of the credit lifecycle? 

Increasingly Digital

The way we know and use technology in lending and credit has changed drastically over the past decade. New tools are being created and modernized constantly to improve and simplify the loan origination process while maintaining the credit fundamentals.

While loan origination systems (LOS) emerged in basic forms decades ago, new functionality has been developed in recent times to help meet the objective of simplifying a complex process through efficiency. The lifecycle of a loan begins at application, moving to underwriting and closing, then to booking on an FI’s core system. The loan and supporting collateral then need to be serviced and monitored over time, including any necessary maintenance along the way. Ultimately, it needs to be recorded as paid and hopefully enable the accountholder to seek future credit using the history captured by the previous transaction.  

Whew, that is a lot to ask from one system.

In reality, there are many systems that need to work together in a coordinated fashion to make all of that happen. Collectively, they form an ecosystem to make the entire experience function properly, improve efficiency and ensure borrower satisfaction with the relationship as a whole.

A Fresh Look at Which C’s to Consider

In reality, there have been more than “5 C’s” for many years. Listen closely to a group of credit professionals and you may hear Cash Flow, Communication, Control, or Common Sense occasionally mentioned in the same breath.

And the list is growing rapidly with the speed of technology:

• Compliance: Not much need for further explanation here.
• Consistency: Same objective as Compliance, while adding in a solid management tool.
• Convenience: Choices are made based on Convenience. Including choosing an FI.
• Coordination: Using APIs to allow multiple systems to interface and communicate – manual to digital.
• Climate: Similar to Conditions, but includes Regulatory and Governmental restraints and direction.
• Core: Using existing data to improve convenience at application and increase efficiency beyond.
• Cyber: Cloud-native technology to allow microservices, container orchestration, and scaling.
• Culture: Maintaining an FI’s values, beliefs, and norms.

Conclusion

In 1849, French writer Jean-Baptiste Alphonse Karr wrote “plus ça change, plus c'est la même chose” – meaning the more things change, the more they stay the same. The credit industry has and will continue to experience massive change to make the overall loan process simpler and the borrower happier about the experience. All while increasing the return on investment for the FI facilitating the transaction to assist their community.

Along with these complex changes, credit tools naturally need to be sharpened and modernized to meet the demands of the work and make solid decisions. Loan origination technology has been developed with a constant focus on the C’s of Credit. Adding additional C’s to the conversation is a natural fit to that evolution.

Do the C’s of Credit still matter? The answer is absolutely. And they’ll continue to serve the credit industry, in the form of an ever-expanding list – to the benefit of both borrowers and FIs.