Credit Risk Management Practice in Banks: A Study on Basic Bank Limited
Prepared By MD. Jamal Hossain ID: 16-050
March 2014 An Internship Report presented in partial Fulfillme nt of the Requirements for the BBA program at University of Dhaka
Department of Banking & Insurance University of Dhaka
i
Internship Report on
Credit Risk Management Practice in Banks: A study on BASIC Bank Limited
Submitted to: Mr. Raad Mozib Lalon
Lecturer Dept. of Banking and Insurance University of Dhaka Submitted by: MD. Jamal Hossain
ID: 16-050 Dept. of Banking and Insurance University of Dhaka
Date of Submission: 6th March, 2014
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March 6, 2014 Mr. Raad Mozib Lalon
Lecturer Dept. of Banking and Insurance University of Dhaka
Subject: Submission of Internship Report on „Credit Risk Management Practice in Bank: A Study on BASIC Bank Limited.‟ Limited. ‟
Dear Sir, With due respect, I would like to submit my internship report on „Credit „Credit Risk Management Practice in Bank: A Study on Basic Bank Limited, Bangladesh.‟ I Bangladesh.‟ I have completed my internship report as part of the course requirement of BBA program under your supervision. It has been a worthwhile experience for me undertaking such a report work to get exposure to the real life of a banking organization. I am grateful for your guidelines and directions. I tried to put my best effort for the preparation of this report. Hereby, I hope that you would be kind and generous enough to accept my sincere effort and oblige thereby. It will be my pleasure to answer any clarification regarding this report.
Sincerely yours, MD Jamal Hossain
ID: 16-050 ………………………………
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Certificate of the Supervisor
To Whom It May Concern This is to certify that the internship report on “Credit Risk Management Practice in Bank: A Study on BASIC Bank Limited Limited” ” for the degree of Bachelor of Business Administration (BBA)
major in Banking & Insurance from University of Dhaka carried out by MD Jamal Hossain , Id # 16-050 under my supervision. No part of the internship report has been submitted for any
degree, diploma, title, recognition before.
………………………………
Mr. Raad Mozib Lalon
Lecturer Department of Banking and Insurance University of Dhaka
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Declaration I do hereby solemnly declare that the work presented in this Internship Report titled “Credit Risk Management Practice in Bank: A Study on BASIC Bank Limited ” is an original work
done by me under the supervision of Mr. Raad Mozib Lalon, Lecturer, Department of Banking & Insurance, and University of Dhaka.
No part of this report has been previously submitted to any other University/ College/ Institution/ Organization for any academic certificate/ degree/ diploma/ q ualification. The work I have presented does not breach any existing copyright and no portion of this copied from any work done earlier for a degree de gree or otherwise. I further undertake to indemnify the Department against any loss or damage arising from breach of the forgoing obligation, if any.
……………………………… MD Jamal Hossain
Id # 16-050 Department of Banking & Insurance Faculty of Business Studies University of Dhaka
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Acknowledgement First and foremost, I would like to express my deep gratitude to the almighty Allah for giving me the ability to complete the report within the d ue time and without any an y major tribulations. I would like to express heartiest gratitude to my academic supervisor Mr. Raad Mozib Lalon for his important suggestions, excellent guidelines and supervisions for preparing this internship report on „Credit Risk Management Practices in Banks: A study on Basic Bank Limited‟. I would also like to give thanks to Mr. Abdus Sattar Khan , AGM, Uttara Branch, BASIC Bank Limited for his kind concern and consideration regarding my academic requirements as my external supervisor. Also I express special gratitude to all the other employees of Uttara branch of BRAC Bank Limited who have shared their knowledge regarding banking with me. Finally, I would like to convey my gratitude to my parents, teachers, friends and many others who extend their support to prepare the report.
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Executive Summary Credit risk is one of the most vital risks for any commercial bank. Credit risk arises from the failure of the borrower to pay the installments of the loan regularly. It may arise from either an inability or an unwillingness to perform in the pre-commitment contracted manner. The real risk from credit is the deviation of portfolio performance from its expected value. The credit risk of a bank is also effect the book value of a bank. bank . The Th e more credit of a particular is in risk, the more probability of a bank to be insolvent. Globally, more than 50% of total risk elements in Banks and Financial Institution (FI) s are credit risk alone. Thus managing credit risk for efficient management of a FI has gradually become the most crucial task. Credit risk management encompasses identification, measurement, matching mitigations, monitoring and control of the credit risk exposures.
In my whole report, I was working on the credit risk Management of BASIC Bank Limited. I have collected last five year financial data of BBL about credit risk management. In my analysis I have showed a comprehensive overview about CRM in different phase of my report. First, I have showed the importance, advantage, challenges and process of CRM. Then I have described about the CRM practice and performance of BBL. Finally, I analyze the impact of CRM on banks financial performance. I have used Ms Excel to analyze the data. I have also used SPSS software to compare relationship between CRM and banks profitability. After analysis and discussion I have identified the summary of my research‟s research‟s findings. I have also given some recommendations about CRM for the company.
After analyzing the financial data, I like to conclude that BBL is one of the most promising banks in our country. According to its CRM performance, the level credit risk of BBL is in moderate level. However, it has the ability to reduce the credit risk possibility and keep it in lower level.
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List of Abbreviations BBL
BASIC Bank Limited
SS
Substandard
CAR
Capital Adequacy Ratio
DF
Doubtful
FI
Financial Institution
BL
Bad and Loss
NPL
Non Performing Loan
SAM
Special Asset Management
NPLR
Non Performing Loan Ratio
SMA
Special Mention account
ROA
Return on Assets
SME
Small medium enterprise
Total Loan
DPD
Days Past Due
Credit Risk Management
EEA
Early Alert Account
TL CRM BB GOB SSI CRAB
Bangladesh Bank
LLPR
Loan Loss Provision Ratio
Government of Bangladesh
MSE
Mean Square Error
Small Scale Industries
LAN
Local Area Network
Credit Rating Agency of Bangladesh Limited
NGO
Non-Government Organization
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Table of Contents Chapter Name
Page No
1.0 Introductory Discuss Discussion ion…………………………………………………….
01- 05
1.1 Introduction……………………………………………………………. Introduction…………………………………………………………….
02
1.2 Background of the Study………………………………………………. Study……………………………………………….
02
1.3 Rationale of the Study………………………………….……………… Study………………………………….………………
02
1.4 Objective of the Study …………………………………………………
03
1.5 Methodology of the Study……………………………………………... Study……………………………………………...
04
1.6 Limitation of the Study…………………………… Study………………………………………………... …………………...
05
1.7 Structure of the Report ………………………………………………...
05
2.0 Review of Literature………………………………………………………….
06-08
3.0 Organizational Overview……………………………………………………
09-12
3.1 Company Profile of BBL……………………………………………… BBL………………………………………………
10
3.2 Function of BBL……………………………………………………… BBL………………………………………………………..
10
3.3 Mission of BBL………………………………….……………….……. BBL………………………………….……………….…….
11
3.4 Vision of BBL …………………………………………………………
11
3.5 Technology…………………………………………………………... Technology…………………………………………………………...... ...
11
3.6 Risk Management……………………………………………………... Management……………………………………………………...
11
3.7 CRAB Rating……………………………………………………...…... Rating……………………………………………………...…...
12
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Table of Contents Chapter Name
Page No
4.0 Theoretical Framework of CRM…………………………………………
13- 15
3.1 What is Credit Risk Management?……………………………………. Management?…………………………………….
14
3.2 Why CRM is Important?………………………………………………. Important?……………………………………………….
14
3.3 Advantage of CRM………………………………….……………… CRM………………………………….………………
15
3.4 Challenges of CRM …………………………………………………
15
5.0 Process of CRM in Banks ……………………………………………………
16-23
5.1 Credit Processing / Approval………………………………………….. Approval…………………………………………..
17
5.2 Credit Approval/ Sanction…………………………………………… Sanction…………………………………………… ..
18
5.3 Credit Documentation………………………………….……………… Documentation………………………………….………………
19
5.4 Credit Administration………………………………………………… Administration…………………………………………………
20
5.5 Disbursement………………………………………………………….. Disbursement…………………………………………………………..
21
5.6 Monitoring & Control of Individual Credit…………………………… Credit……………………………
21
5.7 Monitoring the Overall Credit Portfolio………………………………. Portfolio……………………………….
22
5.8 Classification of Credit………………………………………………... Credit ………………………………………………...
22
5.9 Managing Problem/ Credit Recovery………………………………….
23
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Table of Contents Chapter Name
Page No
6.0 CRM Practice in BASIC Bank ……………………………………………… ………………………………………………
24-33
6.1 Credit Risk Policy of BBL……………………………………… BBL………………………………………..…….
25
6.2 Credit Risk Management Department……………………………… Department………………………………..…
26
6.3 Credit Risk Management Wings ………………………………….… ………………………………….…... ...
26
6.4 Credit A pproval of BBL…………………………………………… BBL……………………………………………..…
27
6.5 Credit Collection of BBL……………………………………………… BBL………………………………………………
28
6.6 Classification and Loss Recognition Policy…………………………… Policy……………………………
29
6.7 Provisioning Procedure of BBL………………………………………. BBL……………………………………….
31
6.8 Loan Rescheduling…………………………………………………….. Rescheduling……………………………………………………..
32
6.9 Bad Portfolio Recovery…………………..……………………………. Recovery…………………..…………………………….
33
7.0 CRM Performance of BASIC Bank………………………………………
34-39
7.1 Trend Analysis……………………………………….………………... Analysis……………………………………….………………...
35
7.2 Ratio Analysis……………………………… Analysis………………………………..…………………………
38
8.0 The Impact of CRM on Banks Profitability …………………………
40-47
8.1 Overview of the Research………………………………… Research…………………………………..…….…….
41
8.2 Previous Research about this Topic………………… Topic…………………... ...…………… ……………..…
41
8.3 Sample Selection and Model Specification ………………………… …………………………... ...
42
8.4 Data Input and Regression Line………………………………………. Line……………………………………….
43
8.5 Result of Research and Interpretation…………………………………
44
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Table of Contents
Chapter Name
Page No
9.0 Findings Summary, Recommendation and Conclusion ………
48- 51
9.1 Summary of Findings………………………………………………… Findings………………………………………………… ..
49
9.2 Recommendation……………………………………...………………. Recommendation……………………………………...……………….
50
9.3 Conclusion………………………………………….….……………… Conclusion………………………………………….….………………
51
Bibliography Bibliograp hy and References: Appendix:
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List of Tables Table No.
Table Title
Page No.
1.1
Structure of the Report
5
3.1
BASIC Bank at a glance
12
5.1
CRM Process in Banks
17
6.1
Credit Collection steps in BASIC Bank
28
6.2
Loan Classification
30
6.3
Rate of Loan Provisioning
31
6.4
Rescheduling of Demand and Continuous Loan
32
7.1
Standard Loan of BASIC Bank
38
NPL Loan of BASIC Bank
39
Description of Model Variables
42
Inputted data for SPSS
43
Summary of Regression analysis
44
Summary of coefficient analysis
45
Summary of ANOVA Test
46
7.2 8.1 8.2 8.3 8.4 8.5
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List of Figures Figure No.
Figures Title
Page No.
5.1
Credit Approval Process
18
5.2
Credit Documentation Process
19
List of Graphs Graphs No.
Figures Title
Page No.
7.1
Total Loans & Advances trend of BBL.
35
7.2
Trend of Non Performing Loan of BBL
36
7.3
Trend of Unclassified Loans of BBL
36
7.4
Trends of Provisions for Classified Loans
37
7.5
Standard Loan to Total Loans Ratio
38
7.6
NPL to Total Loans Ratio
39
8.1
Multiple Regression line
43
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Chapter: 01
Introductory Discussion
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1.1 Introduction: Risk is the element of uncertainty or possibility of loss that prevail in any business transaction in any place, in any mode and at any time. In the financial arena, enterprise risks can be broadly categorized as Credit Risk, Operational Risk, Market Risk and Other Risk. Credit risk is the possibility that a borrower or o r counter party will fail to meet agreed obligations. Globally, more than 50% of total risk elements in Banks and Financial Institution (FI) s are credit risk alone. Thus managing credit risk for efficient management of a FI has gradually become the most crucial task. Credit risk management encompasses identification, measurement, matching mitigations, monitoring and control of the credit risk exposures. As a leading bank of Bangladesh, Basic Bank Limited has a fully functioning department to perform the crucial task of Credit Risk Management (CRM).
1.2 Background of the Study: This research study is not only a way for getting acknowledged about the efficiency in managing credit risk of Bangladeshi Banks, but also a conclusive reference for studying how CRM practices helps to increase profitability and long term sustainability of that banks. I will conduct my study under the close supervision of my academic supervisor who will consistently monitor my progress and recommend any steps taken with a view to rectifying the errors occurred during my study on proposed research proposal. For conducting this research, I have to collect secondary data relating to the financial status of Basic Bank Ltd from the year 2008 to 2012.
1.3 Rationale of the study: To complete my graduation program from the Department of Banking & Insurance, University OF Dhaka, I joined in BASIC Bank Limited as an Intern. For fulfill my internship my report will be on “Credit Risk Management practice in Bank : Bank : A Study on BASIC Bank Limited”. I have been recommended by the Supervisor of my department to work about Credit Risk Management.
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1.4 Objective of the study: The indispensible objective of this research is to examine how bank of Bangladesh especially “Basic Bank Ltd” is efficient in practicing credit risk management throughout its operation. Moreover there are some other subordinated as well as principal objectives regarding CRM of Banks as revealed below:
To get cognizant about how much a bank especially my selected bank named “Basic Bank Ltd” is efficient in consistently practicing practicing credit risk management.
To know the importance and advantages of CRM on the perspective of banking institutions.
To identify the standard process of credit risk management used by banking organization.
To analysis the credit risk policy used by a bank specially my selected BASIC Bank Ltd.
To know about what kinds of challenges are likely to faced by both the Bangladesh Bank and others commercial banks in adopting credit risk management practices.
To scrutinize that how CRM practice impact on banks profitability and sustainability.
To identify the functions of different wings as well as the whole department of CRM.
To analyze how a bank make decision for a credit disbursement.
To know how a bank collect the loan from its customers.
To identify how a bank classify the loan category according to guideline of Central Bank.
To know how a bank keep provision for the classified loan.
To analyze how and when a bank reschedule a loan agreement.
To analyze how Banks go after for a default loans.
To identify the effectiveness of Banks to recover their bad portfolio.
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1.5 Methodology of the Study: Research Type:
This is a descriptive research which is relevant to an inquisitive study as it requires some analysis on the efficient management of bank‟s of bank‟s credit risk as well as the crystal clear concepts on how the CRM affect banks profitability and sustainability.
Types of Data: Primary Sources: The primary source of information is based on my practical experience of
three months long internship at Uttara Branch of Basic Bank Ltd. Secondary Sources: The secondary source of information is based on official website, Annual
report, operation manual of Credit Risk Management and annual report of Basic bank, Bangladesh bank website as well as related d ifferent other websites, books etc.
Data analysis Tools:
After collecting the relevant data, I will conduct the relevant analysis of data consisting of both statistical analysis and financial analysis as mention below: Statistical tools for analysis: The statistical tools that will be used for the purpose of deriving
various relationships among various variables considered under research a re given below: Trend Analysis Multiple regression analysis Testing Hypothesis
Financial Analysis: For conducting the financial analysis I will utilize the ration analysis and
other important financial analysis to identify the efficiency of CRM practices of Bangladeshi Banks.
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1.6 Limitations of the study: On the way of preparing this report, I have faced following problems that may be termed as the limitation of the study:
Bank‟s policy of not disclosing some sensitive data and information for obvious reason posed an obstacle to prepare more informative report.
Personal limitations like inability to understand some official terms, office decorum etc. created a few problems.
1.7 Structure of the Report: Table 1.1: Structure of the Report
Chapter No
Chapter Name
Chapter 1 :
Introductory Discussion
Chapter 2 :
Literature Review
Chapter 3 :
Organizational Overview
Chapter 4 :
Theoretical Framework of CRM
Chapter 5 :
Process of CRM in Banks
Chapter 6 :
CRM Practice in BASIC Bank Limited
Chapter 7 :
CRM Performance of BASIC Bank Limited
Chapter 8 :
The Impact of CRM on Banks Profitability
Chapter 9 :
Summary of Findings, Recommendation and Conclusion
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Chapter: 02
Review of Literature
6
Credit Risk Management and Risk based Supervision in Banks has been the subject of study of many Agencies and Researchers and Academicians. There is a treasure of literature available on the subject. A careful selection of relevant material was a formidable task before starting the research. Efforts have been made to scan the literature highly relevant to the Context.
Rajagopal (1996) made an attempt to overview the bank‟s risk management and suggests a
model for pricing the products based on credit risk assessment of the borrowers. He concluded that good risk management is good banking, which ultimately leads to profitable survival of the institution. A proper approach to risk identification, measurement and control will safeguard the interests of banking institution in long run. Froot and Stein (1998) found that credit risk management through active loan purchase and
sales activity affects banks‟ investments in risky loans. Banks that purchase and sell loans hold more risky loans (Credit Risk and Loss loans and commercial real estate loans) as percentage of the balance sheet than other banks. Again, these results are especially striking because banks that manage their credit risk (by buying and selling loans) hold more risky loans than banks that merely sell loans (but don‟t buy them) or banks b anks that merely buy loans(but don‟t sell them).
Treacy and Carey (1998) examined the credit risk rating mechanism at US Banks. The paper
highlighted the architecture of Bank Internal Rating System and Operating Design of rating system and made a comparison of bank system relative to the rating agency system. They concluded that banks internal rating system helps in managing credit risk, profitability analysis and product pricing.
Bagchi (2003) examined the credit risk management in banks. He examined risk identification,
risk measurement, risk monitoring, and risk control and risk audit as basic considerations for credit risk management. The author concluded that proper credit risk architecture, policies and framework of credit risk management, credit rating system, and monitoring and control contributes in success of credit risk management system.
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Muninarayanappa and Nirmala (2004) outlined the concept of credit risk management in
banks. They highlighted the objectives and factors that determine the direction of bank‟s policies on credit risk management. The challenges related to internal and external factors in credit risk management are also highlighted. They concluded that success of credit risk management require maintenance of proper credit risk environment, credit strategy and policies. Thus the ultimate aim should be to protect and improve the loan quality.
Khan, A.R. (2008) illustrates that Credit risk is one of the most vital risks for any commercial
bank. Credit risk arises from non performance by a borrower. It may arise from either an inability or an unwillingness to perform in the pre-commitment contracted manner. The real risk from credit is the deviation of portfolio performance from its expected value. The credit risk of a bank is also effect the book value of a bank. bank . The Th e more credit of a particular is in risk, risk , the more probability of a bank to be insolvent.
Banerjee, Prashanta K., & Farooqui Q.G.M. (2009) said that the objective of the credit
management is to maximize the performing asset and the minimization of the non-performing asset as well as ensuring the optimal point of loan and advance and their efficient management. The lending guideline should include Industry and Business Segment Focus, Types of loan facilities, Single Borrower and group limit, Lending caps. It should adopt a credit grading system .All facilities should be assigned a risk grade.
Rose, Peter S. (2001) examined that for most banks, loans are the largest and most obvious
source of credit risk; however, other sources of credit risk exist throughout the activities of a bank, including in the banking book and in the trading book, and both on and off the balance sheet. Banks are increasingly facing credit risk (or counterparty risk) in various financial instruments other than loans, including acceptances, interbank transactions, trade financing, foreign exchange transactions, financial futures, swaps, bonds, equities, options, and in the extension of commitments and guarantees, and the settlement of transactions.
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Chapter: 03
Organizational Overview
9
3.1 Company Profile of BASIC Bank Limited: Bangladesh Small Industries and Commerce Bank Limited, popularly known as BASIC Bank, is a state-owned scheduled bank. However, it is not a nationalized Bank. It is a bank-company and operates on the lines of a private bank. The very name Bangladesh Small Industries and Commerce Bank Limited is indicative of the nature of the bank. It is a blend of development and commercial banks. BASIC Bank registered under the Companies Act 1913. It was incorporated under this Act on nd
st
the 2 of August 1988. The bank started its operation from the 21 of January 1989. It is governed by the banking Companies Act 1991. The bank was established as the policy makers of the country felt the urgency for a bank in the private sector for financing Small Scale Industries (SSIs). At the outset, the bank started as a joint venture enterprise of the BCC Foundation with 70 percent shares and the government of Bangladesh (GOB) with the remaining 30 percent shares. The BCC Foundation being nonfunctional following the closure of the BCCI, the th
government of Bangladesh took over 100 percent ownership of BASIC on 4 June 1992. Thus the Bank is state owned. However, the Bank is not nationalized; it operates like a private bank as before.
3.2 Functions of BASIC Bank:
Term loans to industries especially to small-scale enterprises.
Full-fledged commercial banking service including collection of deposit, short term trade finance, working capital finance in processing and manufacturing units and financing and facilitating international trade.
Technical support to Small Scale Industries (SSls) in order to enable them to run their enterprises successfully.
Micro credit to the urban poor through linkage with Non- Government Organizations (NGOs) with a view to facilitating their access to the formal financial market for the mobilization of resources.
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3.3 Mission of BASIC Bank: To provide best development and commercial banking services to the common people of Bangladesh and provide special support to the small scale business enterprises.
3.4 Vision of BASIC Bank: Provide the best banking services to all kinds of people and contribute for economic development of the country.
3.5 Technology of BASIC: BASIC bank has its own software developed in 1991. Local area network (LAN) has been installed in Head office and 15 branches of the bank. Wide area network (WAN) has been set up between Head office and branches using X.28 leased line of BTTB. As continuous up gradation of technology its Gulshan branch, Dhaka, Zindabazar branch, Sylhet, Rangpur Branch, Rajshahi branch has become online few years ago.
3.6 Risk Management: In banking business, no reward can be expected without risk. Management of BASIC Bank has established a formal program for managing the business risk faced by the bank. BASIC bank is very much cautious about its investment. Every loan proposal is placed under careful scrutiny before approval. Board of Directors approval is necessary for the proposal of large amount of loans. Internal audit team and recovery team exercise close monitoring on every loan transaction. Management regularly reviews the banks overall assets and liabilities structure and makes necessary changes in the mix asset/liabilities of balance sheet. The Bank also has a liquidity policy to ensure financing flexibility to cope with unexpected future cash demand. The Bank takes necessary action to avoid foreign exchange risk which is called as exposure.
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3.7 CRAB Rating: Credit Rating Agency of Bangladesh Ltd. (CRAB) has assigned long term rating BBB1 as Stand Alone Rating and A2 as Government Support Rating and short term rating ST-3 for the year 2012.Commercial Banks rated 'BBB' in the long term have adequate capacity to meet their financial commitments. However, adverse economic conditions or changing circumstances are more likely to lead to a weakened capacity of the Commercial Banks in higher-rated categories. Commercial Banks rated ST-3 in the short term category are considered to have below average capacity for timely repayment of obligations, although such capacity may impair by adverse changes in business, economic or financial conditions. Commercial Banks rated in this category are characterized with satisfactory level of liquidity, internal fund generation and access to alternative sources of funds is outstanding. Table 3.1: Basic Bank at a Glance Name
BASIC Bank Limited
Date of I ncorporation
August 2, 1998
Date of I naugur ation of Operation Operation
January 21, 1989
H ead off ice
Sena kalian Bhaban (6 floor), 195, Motijeel,
t
Dhaka – Dhaka – 1000, 1000, Bangladesh Nu mber mber of Br anches
68
Ser Ser vice pr ovided
Deposit scheme, credit facility and foreign exchange service
Au thor ized ized capital capital
Tk. 5000.00 million
Paid up capital capital
Tk. 2946.98 million
Ownership
Government of Bangladesh
Ban ki ng software used used
KASTLE core
Technol ogy used used
Members of SWIFT
SWIFT
BKSIBDDH
Email
[email protected]
Website
www.basicbanklimited.com
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Chapter: 04
Theoretical Framework of CRM
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4.1 What is Credit Risk Management (CRM)? Credit risk is most simply defined as the potential that a bank borrower or counterparty will fail to meet its obligations in accordance with agreed terms and conditions. The objective of Credit Risk management is to minimize the risk and maximize banks risk adjusted rate of return by assuming and maintaining credit exposure within the acceptable parameters. The Credit Risk Management department is responsible for upholding the integrity of the Bank‟s risk/return profile. It ensures that risks are properly assessed, and that risk/return decisions are made accurately and transparently. The overall success in credit management depends on the banks credit policy, portfolio of credit, monitoring, supervision and follow-up of the loan and advance. Therefore, while analyzing the credit risk management of a bank, it is required to analyze its credit policy, credit procedure and performance regarding credit risk management.
4.2 Why CRM is important for Banking Institutions? The importance of credit risk management for banking is tremendous. Banks and other financial institutions are often faced with risks that are mostly of financial nature. These institutions must balance risks as well as returns. For a bank to have a large consumer base, it must offer loan products that are reasonable enough. However, How ever, if the interest rates in loan products are too low, the bank will suffer from losses. In terms of equity, a bank must have substantial amount of capital on its reserve, but not too much that it misses the investment revenue, and not too little that it leads itself to financial instability and to the risk of regulatory non -compliance.
The risks of losses that result in the default of payments of the debtors are a kind of risks that must be expected. Because of the exposure of banks to many risks, it is only reasonable for bank to keep substantial amount of capital to protect its solvency and to maintain its economic stability. The second Basel Accords provides statements of its rules regarding the regulations of that come with lending and investment practices, banks must assess the risks. Credit risk management must play its role then to help banks be in compliance with Basel II Accord and other regulatory bodies.
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To manage and assess the risks faced by banks, it is important to make certain estimates, conduct monitoring, and perform reviews of the performance of the bank. However banks are into lending and investing practices, it is relevant to make reviews on loans and to scrutinize and analyze portfolios. Loan reviews and portfolio analysis are crucial then determining the credit and investment risks. The credit risk management system used by many banks today has complexity; however it can help in the assessment of risks by analyzing the credits and determining the probability of defaults and risks of losses. Credit risk management for bank ing is a very useful system, especially if the banks are in line with the survival of banks in the business world.
4.3 Advantages of Credit Risk Management:
First: the awareness of possible threats. This also includes identification of possible loss of assets. In that way, the bank can have back up funds in case they lose an asset.
The manager can also highlight how difficult it will be if a large loan default and affect the performance of bank.
Effective credit risk management improves the current and future financial performance.
When a threat occurs, it‟s important for all departments departments to come together and deal with it. Risk management prevents a department from isolation. Its divide the authority of function across the whole organization.
4.4 Challenges of Credit Risk Management:
Cost: The CRM practice will shell out cash from the bank funds. Banks will have to
improve their cash generating tactics in order to provide means for training and maintenance for something that hasn‟t happened yet.
Training: The time spent for development and research will have to be allocated for
training to ensure proper execution of risk management.
Motivation: Employees needs to be motivated in every moment to deal with the credit
risk.
15
Chapter: 05
Process of CRM in Bank
16
Credit risk management process should cover the entire credit cycle starting from the origination of the credit in a financial institution‟s books to the point the credit is extinguished from the books (Morton Glantz, 2002). It should provide for sound practices in: Table 5.1: CRM Process in banks Credit Risk Management Process 5.1
Credit processing/appraisal
5.2
Credit approval/sanction
2.3
Credit documentation
5.4
Credit administration
5.5
Disbursement
5.6
Monitoring and control of individual credits
5.7
Monitoring the overall credit portfolio
5.8
Credit classification and
5.9
Managing problem credits/recovery
5.1 Credit Processing/Appraisal: Processing/Appraisal: Credit processing is the stage where all required information on credit is gathered and applications are screened. Credit application forms should be sufficiently detailed to permit gathering of all information needed for credit assessment at the outset. In this connection, financial institutions should have a checklist to ensure that all required information is, in fact, collected. Financial institutions should set out pre-qualification screening criteria, which would act as a guide for their officers to determine the types of credit that are acceptable. For instance, the criteria may include rejecting applications from blacklisted customers. These criteria would help institutions avoid processing and screening applications that would b e later rejected.
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5.2 Credit-approval/Sanction: A financial institution must have in place written guidelines on the credit approval process and the approval authorities of individuals or committees as well as the basis of those decisions. Approval authorities should be sanctioned by the board of directors. Approval authorities will cover new credit approvals, renewals of existing credits, and changes in terms and conditions of previously approved credits, particularly credit restructuring, all of which should be fully documented and recorded. Prudent credit practice requires that persons empowered with the credit approval authority should not also have h ave the customer relationship responsibility. Approval authorities of individuals should be commensurate to their positions within management ranks as well as their expertise. Depending on the nature and size of credit, it would be prudent to require approval of two officers on a credit application, in accordance with the Board‟s policy. The approval process should be based on a system of checks and balances. Some approval authorities will be reserved for the credit committee in view of the size and complexity of the credit transaction. Depending on the size of the financial institution, it should develop a corps of credit risk specialists who have high level expertise and experience and demonstrated judgment in assessing, approving and managing credit risk. An accountability regime should be established for the decision-making process, accompanied by a clear audit trail of decisions taken, with proper identification of individuals/committees involved. All this this must be properly documented.
Figure 5.1: Credit Approval Process
1
1
Source: (Credit Approval Process and Credit Risk Management, 2005, Oesterreichische National bank)
18
5.3 Credit Documentation: Documentation is an essential part of the credit process and is required for each phase of the credit cycle, including credit application, credit analysis, credit approval, credit monitoring, and collateral valuation, and impairment recognition, foreclosure of impaired loan and realization of security. The format of credit files must be standardized and files neatly maintained with an appropriate system of cross-indexing to facilitate review and follow up. The Bangladesh Bank will pay particular attention to the quality of files and the systems in place for their maintenance. Documentation establishes the relationship between the financial institution and the borrower and forms the basis for any legal action in a court of law. Institutions must ensure that contractual agreements with their borrowers are vetted b y their legal advisers. Credit applications must be documented regardless of their approval or rejection. All documentation should be available for examination by the Bangladesh Bank. Financial institutions must establish policies on information to be documented at each stage of the credit cycle. The depth and detail of information from a customer will depend on the nature of the facility and his prior performance with the institution. A separate credit file should be maintained for each customer. If a subsidiary file is created, it should be properly cross-indexed to the main credit file. Financial institutions should maintain a checklist that can show that all their policies and procedures ranging from receiving the th e credit application to the disbursement of funds have been be en complied with. The checklist should also include the identity of individual(s) and/or committee(s) involved in the decision-making process (Morton Glantz, 2002).
Figure 5.2: Credit Documentation Process
19
5.4 Credit Administration: Financial institutions must ensure that their credit portfolio is properly administered, that is, loan agreements are duly prepared, renewal notices are sent systematically and credit files are regularly updated. An institution may allocate its credit administration function to a separate department or to designated individuals in credit operations, depending on the size and complexity of its credit portfolio (Credit Risk Management: Industry Best Practices 2005, Bangladesh Bank). A financial institution‟s credit administration function should, as a minimum, ensure that:
Credit files are neatly organized, cross-indexed, and their removal from the premises is not permitted;
The borrower has registered the required insurance policy in favor of the bank and is regularly paying the premiums;
The borrower is making timely repayments of lease rents in respect of charged leasehold properties;
Credit facilities are disbursed only after all the contractual terms and conditions have been met and all the required documents have been received;
Collateral value is regularly monitored;
The borrower is making timely repayments on interest, principal and any agreed to fees and commissions;
Information provided to management is both accurate and timely;
Responsibilities within the financial institution are adequately segregated;
Funds disbursed under the credit agreement are, in fact, used for the purpose for which they were granted.
“back office” operations are are properly controlled;
The established policies and procedures as well as relevant laws and regulations are complied with; and
20
5.5 Disbursement: Once the credit is approved, the customer should be advised of the terms and conditions of the credit by way of a letter of offer. The duplicate of this letter should be duly signed and returned to the institution by the customer. The facility disbursement process should start only upon receipt of this letter and should involve, inter alia, the completion of formalities regarding documentation, the registration of collateral, insurance cover in the institution‟s favor and the vetting of documents by a legal expert. Under no circumstances shall funds be released prior to compliance with pre-disbursement conditions and approval by the relevant authorities in the financial institution.
5.6 Monitoring and Control of Individual Credits: To safeguard financial institutions against potential losses, problem facilities need to be identified early. A proper credit monitoring system will provide the basis for taking prompt corrective actions when warning signs point to deterioration in the financial health of the borrower. Examples of such warning signs include unauthorized drawings, arrears in capital and interest and deterioration in the borrower‟s operating environment (Morton Glantz, 2002). Financial institutions must have a system in place to formally review the status of the credit and the financial health of the borrower at least once a year. More frequent reviews (e.g at least quarterly) should be carried out of large credits, problem credits or when the operating environment of the customer is undergoing significant chang es. In broad terms, the monitoring activity of the institution will ensure that:
Funds advanced are used only for the purpose stated in the customer‟s credit application;
Financial condition of a borrower is regularly tracked and management advised in a timely fashion;
Borrowers are complying with contractual covenants;
Collateral coverage is regularly assessed and related to the bo rrower‟s financial health;
The institution‟s internal risk ratings reflect the current condition of the customer ; 21
5.7 Monitoring the Overall Credit Portfolio (Stress Testing): An important element of sound credit risk management is analyzing what could potentially go wrong with individual credits and the overall credit portfolio if conditions/environment in which borrowers operate change significantly. The results of this analysis an alysis should shou ld then be factored into the assessment of the adequacy of provisioning and capital of the institution. Such stress analysis can reveal previously undetected areas of potential credit risk exposure that could arise in times of crisis (Morton Glantz, 2002). Possible scenarios that financial institutions should consider in carrying out stress testing include:
Significant economic or industry sector downturns;
Adverse market-risk events; and
Unfavorable liquidity conditions.
Financial institutions should have industry profiles in respect of all industries where they have significant exposures. Such profiles must be reviewed /updated every year. Each stress test should be followed by a contingency plan as regards recommended corrective actions. Senior management must regularly review the results of stress tests and contingency plans. The results must serve as an important input into a review of credit risk management framework and setting limits and provisioning levels (Morton Glantz, 2002).
5.8 Classification of credit: Credit classification process grades individual credits in terms of the expected degree of recoverability. Financial institutions must have in place the processes and controls to implement the board approved policies, which will, in turn, be in accord with the proposed guideline. They should have appropriate criteria for credit provisioning and write off. International Accounting Standard 39 requires that financial institutions shall, in addition to individual credit provisioning, assess credit impairment and ensuing provisioning on a credit portfolio basis. Financial
22
institutions must, therefore, establish appropriate systems and processes to identify credits with similar characteristics in order to assess the degree of their recoverability on a portfolio basis. Financial institutions should establish appropriate systems and controls to ensure that collateral continues to be legally valid and enforceable and its net realizable value is properly p roperly determined. This is particularly important f or or any delinquent credits, before netting off the co llateral‟s value against the outstanding amount of the credit for determining provision. As to any guarantees given in support of credits, financial institutions must establish procedures for verifying periodically the net worth of the guarantor.
5.9 Managing Problem Credits/Recovery: Credits/Recovery: A financial institution‟s credit risk policy should clearly set out how problem credits are to be managed. The positioning of this responsibility in the credit department of an institution may depend on the size and complexity of credit operations. The monitoring unit will follow all aspects of the problem credit, including rehabilitation of the borrower, restructuring of credit, monitoring the value of applicable collateral, scrutiny of legal documents, and dealing with receiver/manager until the recovery matters are finalized. The collection process for personal loans starts when the account holder has failed to meet one or more contractual payment (Installment). It therefore becomes the duty of the Collection Department to minimize the outstanding delinquent receivable and credit losses. This procedure has been designed to enable the collection staff to systematically recover the dues and identify / prevent potential losses, while maintaining a high standard of service and retaining good relations with the customers. It is therefore essential and critical, that collection people are familiar with the computerized system, procedures and maintain effective liaison with other departments within the bank (Prudential regulations for consumer financing 2004, Bangladesh Bank).
23
Chapter: 06
CRM Practice in BASIC Bank Ltd
24
6.1 Credit Risk Policy of BASIC Bank Limited: In order to minimize credit risk, BASIC Bank Limited has formulated a comprehensive credit policy according to Bangladesh Bank Core Risk Management guidelines. Credit policy of the Bank provided for the separation of the credit approval function from business, marketing and loan administration function. Credit policy of BBL recommended through credit assessment and risk grading of all clients at the time of approval and portfolio review. Credit policy also provides the guidelines of required information for credit assessment, marketing strategy, approval process, loan monitoring, early alert process, credit recovery, NPL account monitoring, NPL provisioning and write off policy, etc. The board of directors reviews the credit policy of the bank annually.
BASIC Bank credit principle: 1. Aggregate loans loans and advances shall not exceed ten times the Bank‟s net worth or 65% of customers‟ customers‟ deposits whichever is lower. 2. Within the aggregate limit of loans and advances as mentioned in (1) above, 50% of lending will be to small industry sector in accordance with prescribed norms of the Government and the Central Bank in terms of the Bank‟s objectives with 50% to the commercial sector. 3. No term loans will be approved for the commercial sector. Exceptions will be rare and will require approval of the Executive Committee. 4. All lending will be adequately secured with acceptable security and margin requirements as laid down by the Head Office Credit Committee. 5. The Bank shall not incur any uncovered foreign exchange risk (currency exposure) in the lending of funds. 6. The Bank shall not incur any risk of exposure in respect of unmatched rates of interest on funding of loans and advances beyond 15% of outstanding loans and advances. 7. End-use of working capital facilities will be closely monitored to ensure lending user for the purpose for which they were advanced. Loans and advances shall be normally funded from customers‟ deposits of a permanent nature, and not out of short term temporary funds or borrowings from other banks or through short term money market operations. 25
6.2 Credit Risk Management Department: Considering the key elements of Credit Risk the bank has segregated duties of the officers/ executives involved in credit related activities. Separate division for Corporate, SME, Retail and Credit Cards have been formed which are entrusted with the duties of maintaining effective relationship with the customers, marketing of credit products, exploring new business opportunities etc. For transparency in the operations during the entire credit year four teams have been set up. Those are:
Credit Approval Team
Asset Operations Department
Recovery Unit
Impaired Asset Management
In credit management process, Sales Teams of the Corporate, Retail, SME, AND Credit Cards business units book the customers; the Credit Division does thorough assessment before approving the credit facility. Asset Operations Department ensures compliance of all legal formalities, completion of all documentation, and security of the proposed credit facility and finally disburses the amount. The Sales Team reports to the Managing Director & CEO through their line, the Credit Division reports to the Managing Director & CEO, while the Asset Operations Department reports to the Deputy Managing Director & COO. This arrangement has not only ensured segregation of duties and accountability but also helps in minimizing the risk of compromise with quality of the credit portfolio.
6.3 Credit Risk Management Wings: Credit Risk Management Department of BASIC Bank Limited conducted their functions by six wings. Those are:
Wholesale Credit
Retail Underwriting
SME Underwriting
Central Collection Unit
26
6.4 Credit Approval of BASIC Bank Limited: Approval Authorities of the individual and Corporate Loans:
The approval authority of individual loan is mainly done by the credit officer in a branch. However, the authorities of corporate loan mainly consist of I. Head of Credit, Wholesale Banking & Medium Business II. Chief Credit Officer. III. Managing Director & CEO IV. Board Due to large ticket size of loan facility, most of the proposals received by Wholesale Credit team is approved by the Board of Directors.
Lending criteria for general loan:
To evaluate a general loan proposal, Credit team apply the General 5C s which are‟
Character
Capacity
Capital
Conditions
Collateral
Lending Criteria for SME and Corporate loan:
1. Entrepreneur: The promoter or entrepreneur of the proposed project should be creditworthy. 2. Viability of the Project: The project should be viable from organizational, technical,
commercial, financial and economic points of view. The project should be technically sound and environment-friendly. Technology transfer in case of borrowed know-how ought to be ensured. Building should be well planned and well constructed. Market prospect and potential for the product has to be fully assured at competitive prices. There should be reasonable debt equity ratio as determined by the Bank on individual case basis. Debt service coverage ratio should be at least 2.5 times at the optimum level of production. IRR should preferably be not less than 20 percent.
27
6.5 Credit Collection of BASIC Bank Limited: Collection Processes:
Customers are provided with an Offer Letter or Banking Arrangement letter during Loan disbursement where the total payment mood and loan details are described. When a customer fails to fulfill the agreed terms or misses the required payment, the account then enters collections. Collection department is responsible for collecting the overdue amount from the delinquent customers. There are different stages involved in collection after an account enters delinquency till regularization of the account by recovering the overdue. Basically collection can be broadly divided into four stages which are servicing, locating, collecting and cancellation & write-off. The aging of an account in collections is with reference to the days since missed payment. Collection Steps: 2
Table 6.1: Credit Collection Steps of BASIC Bank Days Past Due (DPD)
Collection Action
1-14
Letter, Follow up & Persuasion over phone
15-29
1 Reminder letter & Sl. No. 1 follows
30-44
2 reminder letter + Single visit
45-59
st
n
60-89
90 and above
r
3 reminder letter Group visit by team member Follow up over phone Warning on legal action by next 15 days Call up loan Final Reminder & Serve legal notice legal proceedings begin Telephone calls/Legal proceedings continue Collection effort continues by officer & agent Letter to different banks/Association
2
Source: (Prudential regulations for consumer financing 2004, Bangladesh Bank)
28
6.6 Classification & Credit Loss Recognition Policy: The objective of this policy is to ensure timely recognition of credit losses and consistent application of policies across all businesses.
Impaired Accounts:
The term "impaired accounts" encompasses all accounts classified as risk grades- Sub Standard (SS), Doubtful (DF), and Bad & Loss (BL). Such cases would normally be transferred to the Special Assets Management (SAM) team and/or Collections Team for remedial management. But, Managing Director may uniformly decide when classified account will be transferred to SAM. All accounts risk graded SS, DF & BL exhibit some degree of impairment are collectively termed "Impaired Accounts"/”Non Performing Assets”.
Sub Standard Accounts: Any 180 (Days (Days Past Due) DPD DPD account and/or as per guidelines guidelines of
Bangladesh Bank. Doubtful Accounts: Any 270 DPD account (minimum) (minimum) and/or as per guidelines of Bangladesh Bangladesh
Bank. Bad & Loss Accounts: Any 360 DPD account (minimum) and/or as per guideline of Bangladesh
Bank. Special Mention Accounts: Though Special Mention Accounts are not classified as impaired
account under present rules of Bangladesh Bank, but such accounts are most likely to be turned into impaired accounts.
Any 90 DPD account must be risk graded as SMA as per existing
Bangladesh Bank Policies.
29
Table 6.2: Loan Classification Types of Facility
Loan Classification
SMA
Sub Standard
Doubtful
Bad & Loss
Overdue Period
Provision (%)
Overdue Period
Provision (%)
Overdue Period
Provision (%)
Overdue Period
Provision (%)
Continuous Loan
90 Days or more
5%
6 months or more but less than 9 months
20%
9 months or more but less than 12 months
50%
12 months or more
100%
Demand Loan
90 days or more
5%
6 months or more but less than 9 months
20%
9 months or more but less than 12 months
50%
12 months or more
100%
Term Loan up to 5 years
90 days or more
5%
6 months or more but less than 12 months
20%
12 months or more but less than 18 months
50%
18 months or more
100%
Term Loan over 5 years
90 days or more
5%
12 months or more but less than 18 months
20%
18 months or more but less than 24 months
50%
24 months or more
100%
Short Term Agricultural & Micro Credit
90 days or more
5%
12 months or more but less than 36 months
5%
36 months or more but less than 60 month
5%
60 months or more
100%
30
6.7 Provisioning Procedures of BASIC Bank: General Provisions :
A specific debt provision must be assessed and raised as soon as accounts are classified as SMA, SS, DF, and BL. The specific provision raised should be at least the minimum amount as per provisioning requirement of Bangladesh Bank.
Table 6.3: Rate of Loan Provisioning Business Unit
Rate of Provision
UC
SMA
SS
DF
BL
2%
5%
20%
50%
100%
5%
5%
20%
50%
100%
Small & Medium Enterprise
2%
5%
20%
50%
100%
Short term Agricultural Credit &
5%
-
5%
5%
100%
1%
5%
20%
50%
100%
r e m u s n o C
House Building & Professional Other than House Building & Professional
Micro Credit All others
Specific Provisions:
Specific provisions are raised against a specific account, or any portion thereof, which based on known facts, conditions and values of eligible security, interest suspense, is considered to be uncollectible.
31
6.8 Loan Rescheduling: Rescheduling of Term Loans:
The loans which are repayable within a specific time period under a prescribed repayment schedule are treated as Term Loans. For rescheduling such loans following policies will be followed:
Application for first rescheduling will be considered only after cash payment of at least 15% of the overdue installments or 10% of the total outstanding amount of loan, whichever, is less;
Rescheduling application for the second time will be considered after cash payment of minimum 30% of the overdue installments or 20% of the total outstanding amount of loan, whichever, is less;
Rescheduling of Demand and Continuous Loan:
The loans which can be transacted without any specific repayment schedule but have an expiry date for repayment and a limit are treated as Continuous Loan. In addition, the loans which become repayable after those are claimed by the bank are treated as Demand Loans. If any contingent or any other liabilities are turned to forced loan (i.e. without any prior approval as regular loan) those also are treated as Demand Loans. For rescheduling of Demand and Continuous Loans, the rates of down payment shall be as under:
Table 6.4: Rescheduling of Demand & Continuous Loan Amount of Overdue Loan
Rates of Down payment
Up to Tk.1.00 (one) crore
15%
Tk. 1.00(one) crore to Tk. 5.00 (five) crore
10% (but not less than Tk.15.00 lac)
Tk. 5.00(five) crore and above
5% (but not less than Tk.50.00 lac)
32
6.9 Bad Portfolio Recovery of BASIC Bank Limited: Special Asset Management- SME and Retail Banking:
The role of SAM is to recover the Bank‟s bad portfolio. SAM deals with Bank‟s non-performing non-performing loans through legal persuasion/procedure and facilitates external and internal recovery forces to maintain Bank‟s portfolio at risk (PAR) at a steady position. File Transfer: Files transfer to SAM from SME when the loan reaches at DPD 180. SAM
receives the file from Retail when the loan reach es at DPD 360. Legal Notice: Legal notice issued to SME at DPD 145 and for Retail at DPD 360, SAM-S&R
would arrange to serve 1st legal notice for warning the default borrower to adjust the total outstanding and 2nd legal notice would be served after bouncing the cheque or before litigation. Write- off Management: BASIC Bank has a specific Write-off policy developed based on
Bangladesh Bank circulars. SAM takes initiative to write-off bad portfolios as per policy if following criteria satisfied, a) Classification status will be Bad/Loss (BL) b) 100% provided c) Litigated (under any kind of Law of the land).
Special Asset Management & Credit Inspection - Wholesale Banking &
Medium Business: Credit Inspection: Credit Inspection through file and field level area deals with all matters
relating to credit inspection, ensuring compliance of BBL policy towards credit granting process, corporate portfolio review and physical inspection of client's premise and files Early Alert Account (EAA): Early Alert Process is an effective tool & technique that help BBL
in detecting any deterioration in corporate and medium enterprise clients account and trigger Bank‟s Bank‟s problem accounts at an early stage so that proper attention can be given to avoid any losses.
33
Chapter: 07
CRM Performance of BASIC Bank Ltd (Trend and Ratio Analysis)
34
7.1 Trend Analysis: Trend analysis is a forecasting technique that relies primarily on historical time series data to predict the future. For this research report the trends are discussed for the credit related factors like total loan disbursements, position of unclassified and classified loans amount etc.
Total Loans and advance Trend:
Total loans & advances Trend ( Tk. in crore) 10000 9000 8000 7000 6000 5000 4000 3000 2000 1000 0
Total loans & advances ( tk. In crore)
2008
2009
2010
2011
2012
2726.91
2926.15
4634.15
5688.47
8595.57
Graph 7.1: Total Loans & Advances trend of BBL.
The above graphical representation indicates that the amount of total loans and advance of BBL in the year of 2008 to 2012 was respectively BDT 2726.91, 2926.15, 4634.15, 5688.47, & 8595.57 Taka (crore). Over the five years from the year 2008 to 2012 almost all the years the amount of loans and advance has been increased. So it can be said that there is an increasing trend or upward trend over the last five years in the total loan facility provided by the BBL.
35
Trend of Classified loans (NPL):
Classified Loan (NPL) Trend (TK/ Crore) 900 800 700 600 500 400 300 200 100 0 Classified Loan (NPL) Trend
2008
2009
2010
2011
2012
166.61
164.44
249.31
289.54
769.3
Graph 7.2: Trend of Non Performing Loan of BBL
According to above graph, the NPL of BBL is in an increasing trend. From year 2008 to 2011 the NPL increased in a steady rate. However in 2012 20 12 the NPL NP L amount is very ver y high. This shows the inefficiency of CRM in the year of 2012. 2 012.
Trend of Unclassified loan (Standard):
Unclassified Loan (Standard) Trend (Taka/Core) 9000 8000 7000 6000 5000 4000 3000 2000 1000 0 Classified Loan (NPL) Trend
2008
2009
2010
2011
2012
2560.42
2761.73
4384.88
5398.9
7827
Graph 7.3: Trend of Unclassified Loans of BBL
36
In the graph, it seems that the unclassified loans trend for 5 years is not very fluctuated; overall it was increasing in a steady rate. In the NPL trend section, I describe that high amount of NPL shows CRM efficiency in 2012, but this graph shows that the NPL is very high because the loan disbursement amount was large.
Provision against Classified Loans & Advances:
Provision against classified Loans & Advances Advances ( in crore)
180 160 140 ) e r o r c
120
n i . k t (
80
100
60 40 20 0 Provision against NPL
2008 41.58
2009 52.33
2010 73.45
2011 87.96
2012 174.9
Graph 7.4: Trends of Provisions for Classified Loans
From the above graph we can see there are an increasing trend in the provision for classified loans and advance of the BBL among the last five years. That means in the last five years they emphasized more on classified loans and advances. We see that in the year 2008 the amount of provision for classified loans and advances was 41.58 crore taka and in the next nex t year the amount was 52.33 crore. The provision amount was higher in 2012, which was tk. 174.9 crore.
37
7.2 Ratio Analysis: Here, I will analyze the CRM performance of BASIC Bank using some ratios of Standard and NPLs loans because I think ratio is the best tools for analyzing any types of performance of a financial institutions. Standard Loan to Total Loans Ratio:
Table 7.1: Standard Loan of BASIC Bank (2008-2012)
3
Year
Amount of Standard Loan (Taka)
Total Loans and Advance (Taka)
Ratio of Standard Loans to total loans and advance (Taka)
2008
25604245829
27269131180
93.89 %
2009
27617360130
29261534342
94.38 %
2010
43848867094
46341513504
94.62 %
2011
53989096940
56884757885
94.91 %
2012
78270032892
85955762411
91.05 %
Standard Loan to Total Loans Ratio 96.00% 95.00% 94.00% 93.00% s o i t a r
92.00% 91.00% 90.00% 89.00%
Standard to Total Loans
2008
2009
2010
2011
2012
93.89%
94.38%
94.62%
94.91%
91.05%
Graph 7.5: Standard Loan to Total Loans Ratio
3
Data source: Annual Report of BASIC Bank (2008-2012)
38
From the above figure of ratio of Standard Loan to Total Loans and Advances of BASIC Bank Ltd., we can see that in year 2012the ratio declined .Otherwise in other four years the ratio increases than the previous year. Non Performing Loan to Total Loans Ratio:
Table 7.2: NPL Loan of BASIC Bank (2008-2012)
4
Year
Amount of NPL (Taka)
Total Loans and Advance (Taka)
Ratio of NPL to total loans and advance (Taka)
2008
1666143915
27269131180
6.11 %
2009
1644498230
29261534342
5.62 %
2010
2493173427
46341513504
5.38 %
2011
2895434176
56884757885
5.09 %
2012
7693040736
85955762411
8.95 %
NPL to Total Loans Ratio
s o i t a r
10.00% 9.00% 8.00% 7.00% 6.00% 5.00% 4.00% 3.00% 2.00% 1.00% 0.00%
NPL to Total Loans
2008
2009
2010
2011
2012
6.11%
5.62%
5.38%
5.09%
8.95%
Graph 7.6: NPL to Total Loans Ratio
From the above figure, it can easily be understand that from 2009 to 2011 the NPL to total loans ratio was in steady rate. However, in 2012 this ratio increases marginally higher than the previous years. The main reason of this increase is the recent credit scam of BASIC bank limited. 4
Data source: Annual Report of BASIC Bank (2008-2012)
39
Chapter: 08 The Impact of CRM on Bank’s Profitability (Statistical Analysis)
40
8.1 Overview of the research: The overall objective of this particular research is to investigate the impact of credit risk management on bank‟s profitability . To find the relationship between these two elements, I
select one dependent variable and three independent variables. Then I conduct multiple regression analysis with the variables. variables. Throughout the research, I focus on the main objective; however, I have tried to fulfill some specific objective too. The specific objectives are to:
Determine the extent to which non performing loans affect banks profitability.
Investigate the impact of loan loss provisions on banks p rofitability.
Determine whether banks capital adequacy adequac y contributes to banks profitability.
8.2 Previous Research about This Topic: There have been debate and controversies on the impact of credit risk management and bank‟s financial performance. Over the few decades, many scholars carried out extensive studies on this topic and produced mixed results; while some found that credit risk management impact positively on banks financial performance, some found negative relationship and others suggest that other factors apart from credit risk management impacts on bank‟s performance. Specifically, Kargi (2011) found in a study of Nigeria banks from 2004 to 2008 that there is a significant relationship between banks performance and credit risk management. He found that loans and advances and non performing loans are major variables that determine asset quality of a bank. Kithinji (2010) analyzed the effect of credit risk management (measured by the ratio of loans
and advances on total assets and the ratio of non-performing loans to total loans and advances on return on total asset in Kenyan banks between 2004 to 2008). The study found that the bulk of the profits of commercial banks is not influenced by the amount of credit and non performing loans. The implication is that other variables apart from credit and non performing loans impact on banks‟ profit.
8.3 Sample Selection and Model Specification: Specification: 41
The sample data is gathered from the annual report of BASIC bank (2008-2012). For the analysis, I consider return on asset as dependent variable, and non performing loan ratio, loan loss provision and capital adequacy ratio as independent variables. So the model of this equation will be: ROA = a + b1* NPLR NPLR + b2*LLPR + b3*CAR ……………………………………. (1)
Table 8.1: Description of Model Variables Variable
Description
It is the ratio of net operating profit that a company earns from its ROA ( Return on Asset)
business operations in a given period of time to the amount of the company‟s total asset. It is a good indicator o f Banks Profitability.
NPLR ( Non Performing Loan Ratio)
The ratio of nonperforming loan to total loan is known as NPLR. It is
LLPR ( Loan Loss Provision ratio)
The ratio of amount of provision to the total classified loan. It is an
CAR ( Capital Adequacy Ratio)
This is the index regulatory authorities use to determine the optimum
a good indicator of Credit risk management.
indicator of credit risk management efficiency.
amount of money that a bank must must have to be able to take certain levels of risk endangering deposits funds, or its existence
42
8.4 Data Input and Regression Line: Table 8.2: Inputted data for SPSS Year
ROA
NPLR
LLPR
CAR
2008
1.30
4.59
24.76
12.02
2009
1.41
4.83
35.33
13.48
2010
1.24
4.83
32.80
9.41
2011
1.40
4.38
37.05
10.13
2012
.03
8.22
33.23
10.05
Regression Line 40
35
30
25
ROA
s o i t 20 a r
NPLR LLPR
15 CAR 10
5
0 2 0 08
2 0 09
20 1 0
20 11
20 12
Graph 8.1: Multiple Regression line
43
8.5 Result of research and Interpretation:
Regression Analysis:
Table 8.3: Summary of Regression analysis (Appendix 1) Name of Test
Result
R
.999
R
.99 .998
Adjus Adjuste ted dR
.991 .991
SSE
.05464
Coefficient of correlation (R): In this table, the value of R = 0.999 expresses that there is a
high degree of positive relationship between the dependent variable ROA and the independent variables NPLR, LLPR and CAR. If the independent variables increase at that point this will result in the dependent variable increase accordingly. So it can be said that, credit risk management affect on banks profitability.
2
Coefficient of determination (R ): The term R Square is the multiple coefficient of
determination interpreted as the proportion of variability in the dependent variable that can be explained by the estimated multiple regression equation. Hence, when multiplied by the 100, it can be interpreted as the percentage of the variability in Gross Premium that can be explained by 2
the estimated regression equation. Here R = 0.998 (99.8 % expressed in percentage) indicates 99.8% of the variability in obtained ROA is explained by the independent variables LLPR, NPLR and CAR.
Adjusted R Square: If a variable (say for „NPLR‟) is added to the model, R Square = 0.991
becomes larger even if the added variable is not statistically significant. significant. The Adjusted R Square compensated for the number of independent variables in this model.
44
Standard Error of Estimate: Standard Error of Estimate shows how much error or variability
stands between the estimated result and actual forecasted result. Here the value is 0.0564 that show the amount of variability of our estimated result and the actual result of the observation.
Coefficients Analysis:
Table 8.4: Summary of coefficient analysis (Appendix 2) Name of Test
Result
Constant
2.195
NPLR
-.353
PPLR
.010
CAR
.041
From this table, we got the parameters of the regression line. Here, the constant „a‟ is 2.195 and the slopes b1, b2 and b3 are -.353, .010 and .041 respectively. From these data the regression equation can be constructed as:
ROA = 2.195 + (-.353*NPLR) + .10 LLPR + .041 CAR
The equation implies that a unit change in the independent variable NPLR causes the dependent variable ROA to change by an amount of -.353 when LLPR and CAR are constant. As b1 is negative, this movement of the dependent variable ROA with the independent variable NPLR will be in the negative direction. That is when the amount of NPLR will increase, ROA will decrease and vice versa. The equation also implies that a unit change in the independent variable LLPR causes the dependent variable ROA to change by an amount of .010 when NPL and CAR are constant. As b2 is positive, this movement of the dependent variable ROA with the independent variable NPLR will be in the positive direction. That is when the amount of LLPR will increase, ROA will increase and vice versa.
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In the equation we get the other coefficient of net regression as 0.041. This indicates that when NPLR and LLPR are constant, ROA will change by 0.041 with a unit change in CAR the movement of these two variables will be also in the same direction as the LLPR.
ANOVA Test:
Table 8.5: Summary of ANOVA Test (Appendix 3) Name of Test
Result
MSR
0.462
MSE
0.003
F
154.620
Sig.
0.059
The F-test is used to determine whether a significant relationship exists between dependent variable named ROA and the set of all independent variables such as NPLR, CAR and LLPR; Ftest is referred to the test of overall significance.
In this ANOVA model, the hypothesis for the F-test involves the parameters of the regression models:
Ho (Null Hypothesis): β 1 = 0 H1 (Alternative Hypothesis): β 1 ≠ 0
If H0 is rejected, I have enough evidence to deduce that two of the parameters are not equal to zero and that overall relationship between ROA, NPLR, LLPR and CAR are significant. However, if H0 is accepted, I do not have the sufficient evidence to deduce that a significant relationship exists between dependent and independent variables.
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If H0 is accepted, MSR provides an unbiased estimate of ∂2, and the value of MSR or MSE becomes larger. To determine how h ow large values of MSR/MSE must be to reject H0, I make use of the fact that if H0 is true and the assumptions about the multiple regression model are valid, the sampling distribution of MSR/MSE is an F-distribution with p degrees of freedom in the numerator and (n-p-1) in the denominator . The summary of F- test is given below: F = MSR/MSE = 0.462/.003 = 154.620
Significance of aptitude test: At a significance level of .05 any independent variable having a
significant level around .05 will regard as significant. In our aptitude test significance level of 0.059 is significant.
Significance of overall model: At a significant level of .05 the overall model will be significant
if the F ratio is large enough and the significance level is around .05. In our test the F ratio is 154.620 which is large enough to describe the overall test and the significance level is .059 which is close to .05. So we can conclude that the overall relationship is significant.
Here we accept alternative hypothesis. Thus there is a relationship between ROA and the credit risk management.
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Chapter: 09
Findings Summary, Recommendation and Conclusion
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8.1 Summary of Findings:
Credit risk is an investor‟s risk of loss arising from a borrower who does not make payments as promised. Such an event is called default. Other terms for credit risk are default risk & counterparty risk.
The importance of credit risk management for banking is tremendous because Banks and other financial institutions make profit from their credit disbursement. So it is very important for banks and other financial institution to manage credit risk properly. Effective CRM helps to increase the present and future financial performance of a bank.
The main challenges of CRM are a re additional cost for training and employee motivation.
The process of CRM contains several elements such as Credit processing, Approval, Documentation, Administration, Disbursement, Monitoring Credit classification and Credit recovery etc.
The BBL follows the rules and regulation given by the Bangladesh Bank in practicing Credit risk management. It generally focuses on industrial credit policy rather than general credit. The CRM department of BBL includes approval, operation, and recovery and asset management unit.
BBL recover its bad portfolio by using some recovery methods such as file transfer, legal notice, write off management, early alert account and credit inspection etc.
The level of credit risk of BBL is in moderate level. The amount of total loans, unclassified loans and classified loans is in increasing trend. BASIC Bank maintains good amount provision against the classified loans. The NPLR and STLR ratio is in good level for BBL.
The relationship between CRM and Banks profitability is positive. Therefore, it can be said that effective CRM can contributes on Banks financial performance.
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8.2 Recommendations:
BBL should have a clear written guideline for CRM. The lending guideline should include Industry & Business segment focus, types of loan facilities, single borrower & group limit, lending caps, discouraged business types, loan facility parameters, and cross border risk.
It should adopt a credit grading system in which all facilities should be assigned a risk grade & the borrowers risk grades should be clearly stated on credit application.
Approval authority should be delegated to individual executives rather than Executive Committee/ Board to ensure accountability. This system will not only ensure accountability of individual executives but also expedite the approval process.
The organization structure should have to be changed to put in place the segregation of Marketing / Relationship Management function from approval / Risk Management / Administration function.
The employees of BBL should carefully check the customers KYC form, and take enough collateral before providing them loan.
BBL should follow the CRG model provided by the Bangladesh Bank.
BBL should keep as much as provision against the loans.
BBL should lessen the NPL ratio low by the proper management of loan.
BBL should provide better training to the employees about CRM.
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8.3 Conclusio Conclusion: n: To conclude the report, it is imperative to mention that default clients have been a major problem for the banking financial institutions for long and the financial institutions have been trying to minimize the default problem all along. The Bangladesh Bank has been striving to assist the financial institutions to get out of the default risk problem and formulating policies for that purpose. As a continuance to this, Bangladesh Bank has been providing directives when and where it seems to be necessary. As a leading financial institution of Bangladesh, BASIC Bank Limited has been maintaining its operation in a smooth way. Though the bank faced many problems, its experience in the field of corporate and proper lending policy make it very much cautious about the risk. A very skillful and technically enriched CRM department is always working with its full capacity to analyze the risk of its products and services. So far it has proved itself as a successful organization in assessing risk and thus takes care of it. The main purpose of this paper is to show about the CRM practice of banks. It describes about the theoretical framework, importance, process, advantage and challenges of CRM. It also describes the CRM practice and performance of BBL. Finally it tries to find if there is a relationship between CRM performance and banks profitability. All these analysis is described on the perspective of BASIC Bank limited, Bangladesh.
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B i bli og ogrr ap aphy hy & Re Reff er ence nces s: 1. Annual Report of BASIC Bank Limited (2008-2012) 2. Bagchi S K (2003), “Credit Risk Management – A Panacea or Conundrum? ”, SBI Monthly Review, Review, Vol. 42, No. 10, pp. 497-504. 3. Banerjee, Prashanta K., & Farooqui Q.G.M. (2009), “Credit Management in BanksBIBM”
4. Bangladesh-bank.org. 2013. CREDI . [online] CREDI T RI SK M ANAGEM ENT - Banglade Banglades sh Bank 5. Froot Kenneth A and Jeremy C Stein (1998), “Risk Management, Capital Budgeting, and Capital Structure Policy for Financial Institutions: An Integrated Approach” , Journal
of Financial Financial Economics, Economics, Vol. 47, pp. 55-82. anagin g bank bank ri sk . Amsterdam: Academic Press. 6. Glantz, M. 2002. M anagin
7. Kargi, H. S. (2011), “Credit risk and the Performance of Nigeria banks” Ahmadu Bello University Zaria. 8. Khan, A.R. “Bank Fund Management (A fund emphasis)-Year emphasis)- Year 2008” 9. Kinthinji, A. M. (2010), “Credit risk management and profitability of commercial banks in Kenya” – Key 10. Muninarayanappa and Nirmala (2004), “Credit Risk Management in Banks – Issues” , Journal of Accounting & Finance, Finance, Vol. 18, No. 1, pp. 94-98.
11. Prudential Regulation for Banks: Selected Issues. 2011. Prudential regulations for . consumer consumer f in ancin g 2004, 2004, Bangladesh Bangladesh B ank 12. Rajagopal S (1996), “Bank Risk Management – A Risk Pricing Model” , SBI Monthly Review, Review, Vol. 35, No. 11, pp. 553-567. 13. Rose, Peter S. (2001) “Commercial Bank Management” 14. Treacy William F and Carey Mark S (1998), “Credit Risk Rating at Large US Banks” , Federal Reserve Bulletin, Bulletin, November.
1
Appendix: Appendix 1: (Summary of Regression Analysis) Model Summary Change Statistics Statistics
Model
R
R Square
1
.999
a
Adjusted R
Std. Error of
R Square
F
Square
the Estimate
Change
Change
.998
.991
.05464
.998
Sig. F df1
154.620
df2 3
Change 1
.059
a. Predictors: (Constant), CAR, PPL, NPLR
Appendix 2: (Summary of Coefficient Analysis) a
Coefficients
Model
Unstandardized
Standardized
Coefficients
Coefficients
B
Std. Error
Beta
2.195
.325
-.353
.018
PPL
.010
CAR
.041
1(Constant) NPLR
Correlations t
Sig.
Zero-order
Partial
Part
6.758
.094
-.962
-19.865
.032
-.991
-.999
-.921
.006
.081
1.707
.337
-.003
.863
.079
.017
.117
2.378
.253
.379
.922
.110
a. Dependent Variable: ROA
Appendix 3: (Summary of ANOVA Analysis) b
ANOVA Model 1
Sum of Squares Regression Residual Total
df
Mean Square
1.385
3
.462
.003
1
.003
1.388
4
F 154.620
Sig. a
.059
a. Predictors: (Constant), CAR, PPL, NPLR b. Dependent Variable: ROA
2
