A Lesson in Banking


January, 2012
Ivan Obolensky

Suppose there are eight sales associates and each has applied for a loan from a bank.

Here is the information we are presented with:

Annual Gross Sales Annual Take-Home Pay Annual Expenses Total Indebtedness
$144,660 $21,600 $34,560 $92,200
$100,900 $12,270 $13,230 $16,400
$43,100 $17,760 $22,240 $86,000
$29,400 $14,270 $15,350 $24,500
$21,730 $9,080 $11,400 $16,500
$21,450 $12,600 $14,400 $17,600
$17,740 $9,590 $10,530 $21,000
$3,180 $1,196 $1,515 $4,648


We are part of the Loan Committee and have to decide based on this information whether to grant each of these sales associates a loan, or not. To do so, we might look over the data in general and get an idea of what is being looked at and then, perhaps, manipulate the numbers in some fashion to see how each of the associates stacks up in terms of income, expenses, and indebtedness to decide which are the better candidates to pay the bank back and qualify for a loan.

The loan applicants are sales associates that sell products for individual companies. The amount of company product the sales associate sells each year is called Gross Sales. Out of Gross Sales, the company takes a percentage and then there are various deductions. What each sales associate actually receives in their bank account yearly is their Take Home Pay.

The first thing one observes is that every one of the sales associates is spending more than they are making. We know this because each of their Annual Expenses is greater than their Annual Take Home Pay. If we were to measure how much each is overspending, the table would look like this:

  • 59%
  • 7.8%
  • 25.2%
  • 7.6%
  • 25.5%
  • 14.3%
  • 9.8%
  • 26.7%

Sales associates 1, 3, 5, and 6 are overspending by double digits with Associate 1 overspending the pack. Associate 1 is overspending by almost 60%, although he is leading the field in terms of Gross Sales. This could be a red flag, but we would need to look closer before we reject the loan.

Looking over the data again, we decide to calculate what percentage of Gross Sales each associate takes home. The percentages are as follows:

  • 14.9%
  • 12.2%
  • 41.2%
  • 48.5%
  • 41.8%
  • 58.7%
  • 54.1%
  • 37.6%

It appears from the data above that Associate 1 and Associate 2 create the highest sales but receive the least amount of Take Home Pay on a percentage basis. The lower-producing sales associates take home almost four times as much on a percentage basis as the two high-producing sales associates. We do not know why this is, but from the data above, there is a high correlation between high Gross Sales and the sales associate receiving a low percentage of their Gross Sales as Take Home Pay.

It is time to move on and analyze whether the sales associates can pay back the loan. We decide to compare the Amount of Debt to Gross Sales. We get the following percentages:

  • 63.8%
  • 16.3%
  • 199.5%
  • 83.3%
  • 75.9%
  • 67.13%
  • 118.3%
  • 146.1%

Obviously a lower percentage is better for this measure. From the above sales associates 3, 8, and 7 have a large amount of debt in relation to the Gross Sales while Associate 2 is very low. To take a closer look, we decide to measure the Amount of Debt they have compared to their yearly Take Home Pay.

Again, it is a percentage and the lower the better. We get the following:

  • 426.9%
  • 133.7%
  • 484.2%
  • 171.7%
  • 181.7%
  • 139.7%
  • 218.9%
  • 388.6%

The last two calculations are trying to get a better sense of how much income the applicants take home in relation to their debt. Associates 1 and 3 now have four to five times as much debt as their yearly take home pay. At the very least, it will take years to pay off what they already owe. This is the case with all the sales associates, but it is most extreme in Associates 1 and 3, with 7 and 8 not far behind.

To get an even better idea of each potential loan and not be too hasty on our decision, we decide to ask for additional information. We ask each of the sales associates to report how much it costs to service their current debt. We want to know how much interest they are paying and how easily they are handling it. If their Take Home income is many times the amount of money they need to cover their current loan interest payments, the better and higher likelihood they will continue to be able to pay.

The higher the ratio, the easier it is for the associate to make the payment. Here is that data:

  • 11.7
  • 11.5
  • 20.65
  • 32.25
  • 27.03
  • 22.95
  • 7.25
  • .91

Good thing we asked for this additional information. A ratio below one (as in the case of Associate 8) means that he, or she, cannot service their existing debt. How can the sales associate afford to pay back an additional loan when the associate cannot even pay the interest on the loans they already have?

We now know that number 8 is an immediate rejection. How about the others?

Overall we decide as representatives of the bank that it is necessary as a stipulation to receiving more funds that each has an iron-clad plan to stop overspending. It is quite likely that each will be able to go on for some time before they can no longer pay back what they have borrowed, but eventually this will happen, even if it will take many years. Associates 1, 3, 5, and 6 have a problem with overspending, with Associate 1 needing serious work. It would help if Associate 1 could increase his Take Home Pay by receiving a greater percentage of sales, but we do not know enough about the interrelationship to make a recommendation.

In terms of just the amount of debt and the ability to service it, Associates 3, 4, 5, and 6 should be able to easily handle more debt without having a problem paying. Associate 2 has the least debt and the most income. Associate 3 has high Total Indebtedness compared with their Take Home Pay. The ratio which is calculated by dividing their total debt by Take Home Pay is 20.65%. For housing loans, a ratio under 20% would disqualify them. They are almost maxed. Associate 4 looks to be the best of the lot with minimal overspending and good debt coverage followed by 5 and 6. Associate 7 is closest to following 8 into not being able to cover even its interest payments compared with the others.

The committee decides to reject Associate 8 and tentatively approve some additional loans to the others, with a contingency. The contingency is the additional submission and approval by the committee of a realistic plan to reduce Expenses below Take Home Pay, and that Associate 7 accept a higher interest rate.

At the end of the exercise we ask to meet the Associates and find out their names. They are:

  • United States
  • China
  • Japan
  • Germany
  • UK
  • France
  • Italy
  • Greece

Note: If the figures above are multiplied by 100,000,000 they correspond to actual 2010 published figures.

Gross Sales is Gross Domestic Product.

Take Home Pay is Tax Revenues.

Expenses are Government Expenditures.

Total Indebtedness is the Size of each country’s National Debt.

Figures were taken from the CIA World Factbook. (https://www.cia.gov/library/publications/the-world-factbook/)

Interest rates (used to calculate the additional information of how much it costs annually to service existing debt) are based upon current 10-year rates as provided by Bloomberg.

Although (with the exception of the interest rates mentioned above) a year has passed since this data was made available, the amounts still reflect a fairly good side-by-side comparison. The only thing changed is the amounts have increased.

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© 2012 Ivan Obolensky. All rights reserved. No part of this publication can be reproduced without the written permission from the author.

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