LO 33.7: Describe the customer relationship cycle and discuss the trade-off

LO 33.7: Describe the customer relationship cycle and discuss the trade-off between creditworthiness and profitability.
Entities in the business of loaning money do not focus entirely on risk and creditworthiness; they also have to evaluate customers from the perspective of profitability. If a credit card is issued to a customer with a very high FICO score who pays their bill in full every month, the bank will not earn any interest from that customer on borrowed funds. At the same time, issuing that same credit card to a customer with a low FICO score is a greater risk because the customer may be unable to pay back loaned funds. Along with credit default scoring, lenders are using product and customer profit scoring measures to evaluate the potential profitability of a specific product and the potential profitability of a specific customer.
In utilizing scorecards to evaluate customers, there are several variations beyond just the credit bureau (FICO) scores. These additional scorecards can be used to evaluate both creditworthiness and profitability. They include:
Revenue scores’, used to evaluate existing customers on potential profitability. Application scores: used to support the decision to extend credit to a new applicant. Response scores’, assign a probability to whether a customer is likely to respond to an offer.
Insurance scores: assign a probability to potential claims by the insured.
Behavior scores: assess existing customer credit usage and historical delinquencies.
Tax authority scores: predict where potential audits may be needed for revenue collection. Attrition scores: assign a probability to the reduction or elimination of outstanding debt
by existing customers.
The customer relationship cycle involves the process a lender goes through to market its products/services, screen applications from customers, manage customer accounts, and then cross-sell to those customers. Marketing efforts will focus on selling new or tailoring existing products to meet the needs of both new and existing customers. Applicant screening involves the acceptance or rejection of an application based on scorecards noted previously,
2018 Kaplan, Inc.
Page 259
Topic 33 Cross Reference to GARP Assigned Reading – Crouhy, Galai, and Mark, Chapter 9
as well as ultimately determining the appropriate price to charge for accepted applicants. Managing the customer account will primarily involve product pricing, credit line authorizations, modifications, renewals, and principal or interest collections. Cross-selling efforts will target existing customers by offering other lender products to meet their needs.
R i s k -B a s e d P r i c i n g