Returns
Management must also ensure that the pricing structure is such that the bank is able to generate returns on the capital tied up with making the loans that are equal to, or greater than, its target return level.
Credit risk
The bank must also determine the likelihood of default and level of losses as a result. Banks do not generally make loans where they expect the borrower to default but experience shows that a proportion will do so. These risks must be recognized and priced in. Specific loans can add to a bank’s overall risks by increasing the concentration of loans to companies in particular industries or locations.
Security
Banks look for borrowers to pledge security against the loan. This is intended to protect the bank from credit losses in the event that the borrower is unable, or unwilling, to honor its loan repayment obligations.