www.bangladesh-bank.org mediaroom circulars fid creditrisk

8/10/2019 Www.bangladesh-bank.org Mediaroom Circulars Fid Creditrisk

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MANAGING CORE RISKSOF FINANCIAL INSTITUTIONS

CREDIT RISKMANAGEMENT

Industry Best Practices

22 11 JJ uu llyy 22 00 00 55

BANGLADESH BANK


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CREDIT RISK MANAGEMENT

Industry Best Practices

PREPARED FOR:

BANGLADESH BANK

PREPARED BY:

FOCUS GROUPON

CREDIT RISK MANAGEMENT


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Focus Group MembersCredit Risk Management

Name Designation Organization

TeamCo-ordinator Sudhir Chandra Das DGM Bangladesh Bank

A. Farjad Ahmed Head of Credit andBusiness

Development

Delta Brac Housing FinanceCorporation Ltd.

Ariful Alam Chowdhury Senior Manager IDLC of Bangladesh Ltd

Hasan Iqbal MD Bangladesh Industrial Finance

Company Ltd.

Md. Akter Hossain

Sannamat

SVP Prime Finance & Investment Co. Ltd.

Md. Kamrul Hassan Senior Manager IPDC of Bangladesh Ltd.Mustafizur Rahman SVP International Leasing & Financial

Services Ltd.

Ramendra Nath Paul VP Phoenix Leasing company Ltd.

Shabbir Ahmed DMD National Housing Finance &

Investments Ltd.

Shamsul Tawhid EVP Uttara Finance and Investments Ltd.

Team Members

Syed Ehsan Quadir MD United Leasing Company Ltd.


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Abbreviations

ALMC Asset/Liabilities Management Committee

AOA Articles of AssociationsBA Borrowers ApplicationBB Bangladesh BankBCA Borrower Credit ApplicationBOD Board of DirectorsBR Board ResolutionBRTA Bangladesh Road Transport AuthorityCA Credit ApplicationCC Credit CommitteeCEO Chief Executive OfficerCIB Credit Information BureauCLR Classified Loan ReviewCLRR Cash Liquidity Reserve RatioCPA Certified Public AccountantsCRG Credit Risk GradingCRM Credit Risk ManagementCRMC Credit Risk Management CommitteeCRMD Credit Risk Management DepartmentEC Executive CommitteeFG Focus GroupForex. Foreign ExchangeFI Financial InstitutionFSV Forced Sale ValueHOBU Head of Business UnitHOCRO Head Office Credit Risk Officer

IT Information TechnologyKYC Know Your CustomerL/C Letter of CreditMD Managing DirectorMIS Management Information SystemMMD Mercantile Marine DepartmentMOA Memorandum of ArticlesNPL Non Performing LoanRAJUK Razdhani Unnayan KartipakhaRFA Request For ActionRJSC Registrar of Joint Stock CompaniesRM Relationship ManagerRU Recovery Unit

SME Small and Medium EnterpriseSRO Statutory Regulator OrderULR Ultimate Realizable ValueWEDB Wage Earners Development BondZCRO Zonal Credit Risk Officer


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The guidelines have been organized into the following sections:

1. POLICY & STRATEGY GUIDELINES

1.1. Lending Guidelines1.2. Credit Assessment & Risk Grading1.3. Approval Authority1.4. Segregation of Duties1.5. Internal Audit

2. PREFERRED RISK MANAGEMENT STRUCTURE & RESPONSIBILITIES

2.1. Preferred Risk Management Structure2.2. Key Responsibilities

3. PROCEDURAL GUIDELINES

3.1. Approval Process3.2. Credit Administration3.3. Credit Monitoring3.4. Credit Recovery

These guidelines were prepared and endorsed by senior credit executives from privatesector Financial Institutions operating in Bangladesh.

It is the expectation of Bangladesh Bank that these guidelines will be adopted, particularlyfor those FIs that have a high rate of non-performing facilities and weak credit riskmanagement procedures. Bangladesh Bank may, based on its regular examination ofindividual FIs, enforce the specific adoption of these guidelines.


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Table of Contents

1. POLICY & STRATEGY GUIDELINES 1

1.1. Lending Guidelines 2

1.2. Credit Assessment & Risk Grading 4

1.3. Approval Authority 10

1.4. Segregation of Duties 13

1.5. Internal Audit 14

2. PREFERRED RISK MANAGEMENT STRUCTURE & RESPONSIBILITIES 15

2.1 Preferred Risk Management Structure 15

2.2 Key Responsibilities 17

3. PROCEDURAL GUIDELINES 18

3.1. Approval Process 18

3.2. Credit Administration 19

3.3. Credit Monitoring 20

3.4. Credit Recovery 21

4. APPENDICES 26-56


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Policy & Strategy Guidelines

Credit Risk Management -Industry Best Practices Page 1

1. POLICY & STRATEGY GUIDELINES

This section details fundamental credit risk management policies and strategies that arerecommended for adoption by all FIs in Bangladesh. The guidelines contained herein outlinegeneral principles that are designed to govern the implementation of more detailed lendingprocedures and risk grading systems within individual FIs. It is the overall responsibility of

FIs Board to approve FIs credit risk strategy and significant policies relating to credit riskand its management which should be based on the FIs overall business strategy. To keep itcurrent, the overall policy and strategy has to be reviewed by the Board, preferably annually.

Credit Risk Policy

Every FI should have a credit risk policy document that should include risk identification, riskmeasurement, risk grading/ aggregation techniques, reporting and risk control/ mitigationtechniques, documentation, legal issues and management of problem facilities. The seniormanagement of the FI should develop and establish credit policies and credit administrationprocedures as a part of overall credit risk management framework and get those approvedfrom Board. Such policies and procedures shall provide guidance to the staff on varioustypes of lending including Corporate, SME, Consumer, Housing etc. Credit risk policiesshould:

Provide detailed and formalized credit evaluation/ appraisal process

Provide risk identification, measurement, monitoring and control

Define target markets, risk acceptance criteria, credit approval authority, creditorigination/ maintenance procedures and guidelines for portfolio management

Be communicated to branches/controlling offices. All dealing officials should clearlyunderstand the FIs approach for credit sanction and should be held accountable forcomplying with established policies and procedures

Clearly spell out roles and responsibilities of units/staff involved in origination andmanagement of credit

In order to be effective, these policies must be clear and communicated down the line.Further any significant deviation/exception to these policies must be communicated to thetop management/Board and corrective measures should be taken. It is the responsibility ofsenior management to ensure effective implementation of these policies duly approved bythe Board.

Credit Risk Strategy

The very first purpose of FIs credit strategy is to determine the risk appetite of the FI. Onceit is determined the FI could develop a plan to optimize return while keeping credit risk withinpredetermined limits. It is essential that FIs give due consideration to their target market

while devising credit risk strategy. The credit procedures should aim to obtain an in-depthunderstanding of the FIs clients, their credentials & their businesses in order to fully knowtheir customers.

Each FI should develop, with the approval of its Board, its own credit risk strategy orplan that establishes the objectives guiding the FIs credit-granting activities andadopt necessary policies/ procedures for conducting such activities. This strategyshould spell out clearly the organizations credit appetite and the acceptable level ofrisk-reward trade-off for its activities


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The strategy would, therefore, include a statement of the FIs willingness to grantfacilities based on the type of economic activity, geographical location, currency,market, maturity and anticipated profitability. This would necessarily translate into theidentification of target markets and business sectors, preferred levels ofdiversification and concentration, the cost of capital in granting credit and the cost ofbad debts

The strategy should delineate FIs overall risk tolerance in relation to credit risk, theinstitutions plan to grant credit based on various client segments and products,economic sectors, geographical location, currency and maturity

The strategy should provide pricing strategy and ensure that FIs overall credit riskexposure is maintained at prudent levels and consistent with the available capital

The strategy should provide continuity in approach and take into account cyclicaspect of countrys economy and the resulting shifts in composition and quality ofoverall credit portfolio. While the strategy would be reviewed periodically andamended, as deemed necessary, it should be viable in long term and through variouseconomic cycles

Senior management of a FI shall be responsible for implementing the credit riskstrategy approved by the Board

1.1 LENDING GUIDELINES

All FIs should have established Lending Guidelines that clearly outline the seniormanagements view of business development priorities and the terms and conditionsthat should be adhered to in order for facilities to be approved. The LendingGuidelines should be updated at least annually to reflect changes in the economicoutlook and the evolution of the FIs facility portfolio, and be distributed to alllending/marketing officers. The Lending Guidelines should be approved by theManaging Director/CEO & Board of Directors of the FI based on the endorsement ofthe FIs Head of Credit Risk Management and the Head of Business Units. ( Section2.1 of these guidelines refers )

Any departure or deviation from the Lending Guidelines should be explicitly identifiedin credit applications and a justification for approval provided. Approval of facilitiesthat do not comply with Lending Guidelines should be restricted to the FIs Head ofCredit or Managing Director/CEO or Board of Directors.

The Lending Guidelines should provide the key foundations for accountofficers/relationship managers (RM) to formulate their recommendations for approval,and should include the following:

Industry and Business Segment Focus

The Lending Guidelines should clearly identify the business/industry sectors thatshould constitute the majority of the FIs facility portfolio. For each sector, a clearindication of the FIs appetite for growth should be indicated (as an example,Textiles: Grow, Cement: Maintain, Construction: Shrink). This will providenecessary direction to the FIs marketing staff.

Types of FacilitiesThe type of facilities that are permitted should be clearly indicated, such asLease, Term Loan, Home Loan, and Working Capital etc.


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Single Borrower/Group Limits/Syndication 1

Details of the FIs Single Borrower/Group limits should be included as perBangladesh Bank guidelines. FIs may wish to establish more conservative criteriain this regard.

Sector Lending Caps An important element of credit risk management is to establish exposure limits forsingle obligors and group of connected obligors. FIs are expected to develop theirown limit structure while remaining within the exposure limits set by BangladeshBank. The size of the limits should be based on the credit strength of the obligor,genuine requirement of credit, economic conditions and the institutions risktolerance. Appropriate limits should be set for respective products and activities.FIs may establish limits for a specific industry, economic sector or geographicregions to avoid concentration risk.

Product Lending CapsFIs should establish a specific product exposure cap to avoid over concentrationin any one product.

Discouraged Business TypesFIs should outline industries or lending activities that are discouraged. The FImay have segregated sectors to be discouraged based on the following:

Government Specified Best Practice Company Specific Military

Equipment/Weapons Finance

Lending tocompanies listedon CIB black list orknown defaulters

Highly LeveragedTransactions

Logging, MineralExtraction/Mining, or otheractivity that is Ethically orEnvironmentally Sensitive

Counter parties in countriessubject to UN sanctions

Finance of SpeculativeInvestments

Share Lending Taking an Equity Stake in

Borrowers Lending to Holding Companies Bridge Loans relying on

equity/debt issuance as a sourceof repayment.

Facility ParametersFacility parameters (e.g., maximum size, maximum tenor, and covenant andsecurity requirements) should be clearly stated. As a minimum, the followingparameters should be adopted:

- FIs should not grant facilities where the FIs security position is inferior tothat of any other financial institution.

- Assets pledged as security should be properly insured.- Valuations of property taken as security should be performed prior to

facilities being granted. A recognized 3rd party professional valuation firmshould be appointed to conduct valuations.

1 Syndication means joint financing by more than one FIs or Banks to the same clients against acommon security. This is done basically, to spread the risk. It also provides a scope for anindependent evaluation of risk and focused monitoring by the Agent/Lead Arranger.In syndication financing, FIs also enter into an agreement that one of the lenders may act as Lead

Arranger. In such cases, Lead Arranger has to co-ordinate the activities at various stages of handlingthe proposal i.e. appraisal, sanction, documentation, sharing of security, disbursement, inspection,follow-up, recovery etc. It may also call meetings of syndication members, whenever necessary tofinalize any decision.The Central Bank also suggests finalizing large obligor through syndicated financing to diversify risks.


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Cross Border RiskRisk associated with cross border lending. Borrowers of a particular country maybe unable or unwilling to fulfill principle and/or interest obligations. Distinguishedfrom ordinary credit risk because the difficulty arises from a political event, suchas suspension of external payments

- Synonymous with political & sovereign risk- Third world debt crisis

1.2 CREDIT ASSESSMENT & RISK GRADING

1.2.1 Credit Assessment A thorough credit and risk assessment should be conducted prior to the granting of afacility, and at least annually thereafter for all facilities. The results of thisassessment should be presented in a Credit Application that originates from therelationship manager/account officer (RM), and is reviewed by Credit RiskManagement (CRM) for identification and probabale mitigation of risks. The RMshould be the owner of the customer relationship, and must be held responsible to

ensure the accuracy of the entire credit application submitted for approval. RMsmust be familiar with the FIs Lending Guidelines and should conduct due diligenceon new borrowers, principals, and guarantors.

It is essential that RMs know their customers and conduct due diligence on newborrowers, principals, and guarantors to ensure such parties are in fact who theyrepresent themselves to be. All FIs should have established Know Your Customer(KYC) and Money Laundering guidelines which should be adhered to at all times.

Credit Applications should summaries the results of the RMs risk assessment andinclude, as a minimum, the following details: Amount and type of facility(s) proposed Purpose of facilities Facility Structure (Tenor, Covenants, Repayment Schedule, Interest) Security Arrangements Government and Regulatory Policies Economic Risks

In addition, the following risk areas should be addressed: Borrower Analysis. The majority shareholders, management team and group or

affiliate companies should be assessed. Any issues regarding lack ofmanagement depth, complicated ownership structures or inter-group transactionsshould be addressed, and risks mitigated.

Industry Analysis. The key risk factors of the borrowers industry should be

assessed. Any issues regarding the borrowers position in the industry, overallindustry concerns or competitive forces should be addressed and the strengthsand weaknesses of the borrower relative to its competition should be identified.

Supplier/Buyer Analysis. Any customer or supplier concentration should beaddressed, as these could have a significant impact on the future viability of theborrower.


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Historical Financial Analysis. Preferably an analysis of a minimum of 3 yearshistorical financial statements of the borrower should be presented. Wherereliance is placed on a corporate guarantor, guarantor financial statementsshould also be analyzed. The analysis should address the quality andsustainability of earnings, cash flow and the strength of the borrowers balancesheet. Specifically, cash flow, leverage and profitability must be analyzed.

Projected Financial Performance. Where term facilities (tenor > 1 year) are beingproposed, a projection of the borrowers future financial performance should beprovided, indicating an analysis of the sufficiency of cash flow to service debtrepayments. Facilities should not be granted if projected cash flow is insufficientto repay debts.

Credit Background. Credit application should clearly state the status of theborrower in the CIB (Credit Information Bureau) report. The application shouldalso contain liability status with other Banks and FIs and also should obtain theiropinion of past credit behavior.

Account Conduct. For existing borrowers, the historic performance in meeting

repayment obligations (trade payments, cheques, interest and principalpayments, etc) should be assessed.

Adherence to Lending Guidelines. Credit Applications should clearly statewhether or not the proposed application is in compliance with the FIs LendingGuidelines. The FIs Head of Credit or Managing Director/CEO or Board shouldapprove Credit Applications that do not adhere to the FIs Lending Guidelines.

Mitigating Factors. Mitigating factors for risks identified in the credit assessmentshould be identified. Possible risks include, but are not limited to: marginsustainability and/or volatility, high debt load (leverage/gearing), overstocking ordebtor issues; rapid growth, acquisition or expansion; new business line/productexpansion; management changes or succession issues; customer or supplierconcentrations; and lack of transparency or industry issues.

Facility Structure. The amounts and tenors of financing proposed should be justified based on the projected repayment ability and facility purpose. Excessivetenor or amount relative to business needs increases the risk of fund diversionand may adversely impact the borrowers repayment ability.

Purpose of Credit. FIs have to make sure that the credit is used for the purpose itwas borrowed. Where the obligor has utilized funds for purposes not shown in theoriginal proposal, FIs should take steps to determine the implications oncreditworthiness. In case of corporate facilities where borrower own group ofcompanies such diligence becomes more important. FIs should classify suchconnected companies and conduct credit assessment on consolidated/groupbasis.

Project Implementation. In case of a large expansion, which constitutesinvestment of more than 30% of total capital of a company or for a green fieldproject, project implementation risk should be thoroughly assessed. Projectimplementation risk may involve construction risk (Gestation period, regulatoryand technical clearances, technology to be adopted, availability of infrastructure


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facilities) funding risk, and post project business, financial, and managementrisks.

Foreign Currency Fluctuation. Credit application should clearly state theassessment of foreign currency risk of the applicant and identify the mitigatingfactors for its exposure to foreign currency.

Security. A current valuation of collateral should be obtained and the quality andpriority of security being proposed should be assessed internally and preferablyby a third party valuer. Facilities should not be granted based solely on security.

Adequacy and the extent of the insurance coverage should be assessed.

Type of Control on Cash Flow. The credit application should contain and assess ifthere is any control on the borrowers cash flow for securing the repayment. Thismay include payment assignment from export proceed, payment assignment fromcustomers of the borrower etc.

Exit Option. Credit application should clearly state the exit option from theborrower in case of early identification of deterioration of grading of the borrower.

Name Lending. Credit proposals should not be unduly influenced by an overreliance on the sponsoring principals reputation, reported independent means, ortheir perceived willingness to inject funds into various business enterprises incase of need. These situations should be discouraged and treated with greatcaution. Rather, credit proposals and the granting of facilities should be basedon sound fundamentals, supported by a thorough financial and risk analysis.

Appendix 1.2.1 contains a template for credit application.

1.2.2 Risk Grading

The Credit Risk Grading (CRG) is a collective definition based on the pre-specified scale andreflects the underlying credit-risk for a given exposure. A Credit Risk Grading deploys anumber/ alphabet/ symbol as a primary summary indicator of risks associated with a creditexposure. Credit Risk Grading is the basic module for developing a Credit Risk Managementsystem.

Credit risk grading is an important tool for credit risk management as it helps the FinancialInstitutions to understand various dimensions of risk involved in different credit transactions.The aggregation of such grading across the borrowers, activities and the lines of businesscan provide better assessment of the quality of credit portfolio of a FI. The credit risk gradingsystem is vital to take decisions both at the pre-sanction stage as well as post-sanctionstage.

At the pre-sanction stage, credit grading helps the sanctioning authority to decide whether tolend or not to lend, what should be the lending price, what should be the extent of exposure,what should be the appropriate credit facility, what are the various facilities, what are thevarious risk mitigation tools to put a cap on the risk level.

At the post-sanction stage, the FI can decide about the depth of the review or renewal,frequency of review, periodicity of the grading, and other precautions to be taken. Riskgrading should be assigned at the inception of lending, and updated at least annually. FIsshould, however, review grading as and when adverse events occur. A separate function


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independent of facility origination should review risk grading. As part of portfolio monitoring,FIs should generate reports on credit exposure by risk grade. Adequate trend and migrationanalysis should also be conducted to identify any deterioration in credit quality. FIs mayestablish limits for risk grades to highlight concentration in particular grading bands. It isimportant that the consistency and accuracy of grading is examined periodically by afunction such as an independent credit review group.

Functions of Credit Risk Grading

Well-managed credit risk grading systems promote financial institution safety and soundnessby facilitating informed decision-making. Grading systems measure credit risk anddifferentiate individual credits and groups of credits by the risk they pose. This allows FImanagement and examiners to monitor changes and trends in risk levels. The process alsoallows FI management to manage risk to optimize returns.

Use of Credit Risk Grading

The Credit Risk Grading matrix allows application of uniform standards to credits toensure a common standardized approach to assess the quality of individual obligor,

credit portfolio of a unit, line of business, the FI as a whole.CRG would provide a quantitative measurement of risk which portrays the risk levelof a borrower and enables quick decision making,

As evident, the CRG outputs would be relevant for individual credit selection, whereineither a borrower or a particular exposure/facility is rated. The other decisions wouldbe related to pricing (credit-spread) and specific features of the credit facility. Thesewould largely constitute obligor level analysis.

Risk grading would also be relevant for surveillance and monitoring, internal MIS andassessing the aggregate risk profile of an FI. It is also relevant for portfolio levelanalysis.

CRG would provide a quantitative framework for assessing the provisioningrequirement of a FIs credit portfolio.

Risk Grading for Corporate and SME

The proposed CRG scale is applicable for both new and existing borrowers.

It consists of 8 categories, of which categories 1 to 5 represent various grades ofacceptable credit risk and 6 to 8 represent unacceptable credit risk. However,individual FI depending on their risk appetite may implement more stringent policy.

GRADING SHORT NAME NUMBERSuperior SUP 1Good GD 2Acceptable ACCPT 3Marginal/Watchlist MG/WL 4Special Mention SM 5Sub standard SS 6Doubtful DF 7Bad & Loss BL 8


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Having considered the significance of credit risk grading, it becomes imperative forthe financial system to carefully develop a credit risk grading model, which meets theobjective outlined above.

The following Risk Grade Matrix is provided as an example. Refer also to the RiskGrade Scorecard attached as Appendix 1.2.2 . The more conservative risk grade

(higher) should be applied if there is a difference between the personal judgment andthe Risk Grade Scorecard results. It is recognized that the FIs may have more orless Risk Grades, however, monitoring standards and account management must beappropriate given the assigned Risk Grade:

Risk Rating Grade DefinitionSuperior LowRisk

1 Credit facilities, which are fully secured i.e. fully cash covered. Credit facilities fully covered by government guarantee. Credit facilities fully covered by the guarantee of a top tier

international Bank.Good SatisfactoryRisk

2 Strong repayment capacity of the borrower

The borrower has excellent liquidity and low leverage. The company demonstrates consistently strong earnings andcash flow certainty.

Borrower has well established, strong market share. Very good management skill & expertise. Credit facilities fully covered by the guarantee of a top tier local

Bank. Aggregate Score of 85 or greater based on the Risk Grade

Score Sheet Acceptable Fair Risk

3 These borrowers are not as strong as GOOD Gradeborrowers, but still demonstrate consistent earnings, cash flowcertainty and have a good track record.

Borrowers have adequate liquidity, cash flow and earnings. Credit in this grade would normally be secured by acceptable

collateral (1st charge over inventory / receivables / equipment /property).

Acceptable management Acceptable parent/sister company guarantee Aggregate Score of 75-84 based on the Risk Grade Score

SheetMarginal -Watch list

4 This grade warrants greater attention due to conditionsaffecting the borrower, the industry or the economicenvironment.

These borrowers have an above average risk due to strainedliquidity, higher than normal leverage, thin cash flow and/or

inconsistent earnings. Weaker business credit & early warning signals of emergingbusiness credit detected.

The borrower incurs a loss Facility repayments routinely fall past due Account conduct is poor, or other untoward factors are present. Credit requires attention Aggregate Score of 65-74 based on the Risk Grade Score

Sheet


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Risk Rating Grade DefinitionSpecial Mention 5 This grade has potential weaknesses that deserve

managements close attention. If left uncorrected, theseweaknesses may result in a deterioration of the repaymentprospects of the borrower.

Severe management problems exist.

Facilities should be downgraded to this grade if sustaineddeterioration in financial condition is noted (consecutivelosses, negative net worth, excessive leverage),

An Aggregate Score of 55-64 based on the Risk Grade ScoreSheet.

Substandard 6 Financial condition is weak and capacity or inclination to repayis in doubt.

These weaknesses jeopardize the full settlement of facilities. Bangladesh Bank criteria for sub-standard credit shall apply. An Aggregate Score of 45-54 based on the Risk Grade Score

Sheet.

Doubtful andBad(non-performing)

7 Full repayment of principal and interest is unlikely and thepossibility of loss is extremely high.

However, due to specifically identifiable pending factors, suchas litigation, liquidation procedures or capital injection, theasset is not yet classified as Bad & Loss.

Bangladesh Bank criteria for doubtful credit shall apply. An Aggregate Score of 35-44 based on the Risk Grade Score

Sheet.Loss(non-performing)

8 Credit of this grade has long outstanding with no progress inobtaining repayment or on the verge of wind up/liquidation.

Prospect of recovery is poor and legal options have beenpursued.

Proceeds expected from the liquidation or realization of

security may be awaited. The continuance of the facility as abankable asset is not warranted, and the anticipated lossshould have been provided for.

This classification reflects that it is not practical or desirable todefer writing off this basically valueless asset even thoughpartial recovery may be affected in the future. BangladeshBank guidelines for timely write off of bad facilities must beadhered to. Legal procedures/suit initiated.

Bangladesh Bank criteria for bad & loss credit shall apply. An Aggregate Score of less than 35 based on the Risk Grade

Score Sheet.

The Early Alert Report ( Appendix 3.3.1 ) should be completed in a timely manner bythe RM and forwarded to CRM for approval to affect any downgrade. After approval,the report should be forwarded to Credit Administration, who is responsible to ensurethe correct facility/borrower Risk Grades are updated on the system. Thedowngrading of an account should be done immediately when adverse information isnoted, and should not be postponed until the annual review process.


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Risk Rating for Consumer Lending

For consumer lending, FIs may adopt credit-scoring models for processing facilityapplications and monitoring credit quality. FIs should apply the above principles in themanagement of scoring models. Where the model is relatively new, FIs should continue to

subject credit applications to rigorous review until the model has stabilized.

1.2.3 Ratings Review

The rating review can be two-fold: Continuous monitoring by those who assigned the grading. The Relationship

Managers (RMs) generally have a close contact with the borrower and are expectedto keep an eye on the financial stability of the borrower. In the event of anydeterioration the grading are immediately revised /reviewed.

Normally CRG should be reviewed at least once in a year. For risk grades startingfrom 5 to 8, CRG should be reviewed in every six months.

Secondly the risk review functions of the FI or business lines also conduct periodicalreview of grading at the time of risk review of credit portfolio.

1.3 APPROVAL AUTHORITY

All commercial activities, which commit the FI to deliver risk sensitive products,require prior approval by authorized committees/individuals. A FI may have theBoard, Management/Executive Committee, and Credit Committees for reviewing andapproving financing proposals. The FI may have threshold based on percentage ofequity that sets limits for review and approval of credit proposals in differentcommittees. The Board must approve the threshold limit. Besides, approval authoritymay be delegated further to individual executives based on security, the executivesknowledge and experience to ensure accountability and quick decision in theapproval process. The concerned CRM officials should be the owner of their

independent review and identification of risks based on the credit application.

The authority to sanction/approve facilities must be clearly delegated by theManaging Director/CEO & Board to the Corporate Center and further down to theBusiness Units. Business Units are independent and responsible for managing allbusiness activities within the approved limits. However, the concerned RM of thesales team / branch staff responsible for facility sales should be the owner of thecustomer relationship, and must be held responsible to ensure the accuracy of thefacility application submitted for approval. They must be familiar with the FIs LendingGuidelines and should conduct due diligence on new borrowers, purpose of thefacilities and guarantors.

The vast majority of FIs serve a number of different customer segments. This

segmentation is mostly used to differentiate the services offered and to individualizethe respective marketing efforts. As a result, this segmentation is based on customerdemands in most cases. Based on its policy, a FI tries to meet the demands of itscustomers in terms of accessibility and availability, product range and expertise, aswell as personal customer service. In practice, linking sales with the risk analysisunits is not an issue in many cases at first. The sales organization often determinesthe process design in the risk analysis units.


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The delegation of authority needs to be clearly documented and must include as aminimum:

Absolute and/or incremental credit approval authority being delegated Executives or positions to whom authority is being further delegated Ability of recipients to further delegate risk approval authority Restrictions, if any, placed on the use of delegated risk-approval authorities

The degree of delegation of authority will depend on a number of variables including: Nature of financial products Degree of market responsiveness required Types of risks being assessed Institutions risk philosophy and credit culture Experience of credit executives

The following guidelines should apply in the approval/sanctioning of facilities: Credit approval authority must be delegated in writing from the MD/CEO &

Board (as appropriate), acknowledged by recipients, and records of alldelegation retained in CRM

Delegated approval authorities must be reviewed annually by MD/CEO/Board The credit approval function should be separate from the

marketing/relationship management (RM) function Approvals must be evidenced in writing, or by electronic signature. Approval

records must be kept on file with the Credit Applications All credit risks must be authorized by executives within the authority limit

delegated to them by the MD/CEO or Board All applications must be reviewed by the Head of Credit Risk Management for

independent assessment and identification risks and approved by respectivecommittees or individuals delegated by Board or CEO/MD

Respective CRM officials will be held responsible for identification of risk. The RM should be the owner of the customer relationship, and must be held

responsible to ensure the accuracy of the entire credit application submittedfor approval. RMs must be familiar with the FIs Lending Guidelines and

should conduct due diligence on new borrowers, principals, and guarantors The aggregate exposure to any borrower or borrowing group must be used todetermine the approval authority required

Any credit proposal that does not comply with Lending Guidelines, regardlessof amount, should be referred to Head of Credit Risk Management for reviewand approved by CEO/MD or Board

MD/CEO must approve and monitor any cross-border exposure risk A monthly summary of all new facilities approved, renewed, enhanced, and a

list of proposals declined stating reasons thereof may be reported by CRM tothe CEO/MD

Any breaches of lending authority should be reported to MD/CEO, Head ofInternal Control, and Head of CRM

Approval Authority for Non Standardized Credits:

The factors to be taken into account in drawing up the decision-making structurefor non-standardized credits such as corporate and SME lending are thefollowing:

Level of ExposureThe level of exposure plays a decisive role in stipulating the decision-makingstructure. This is reflected in the fact that in most cases, the different levels ofauthority are defined by the level of exposure.


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Value of CollateralThe value of the collateral restricts the unsecured portion of the exposure andis therefore also of great significance. In most cases, the translation of thiscriterion is effected by showing separately the maximum unsecured volumewithin the scope of a level of authority.

Type of BorrowerThere are credits to Banks, FIs and to sovereigns, which are different fromfacilities to corporate and private customers because of the high volumesinvolved. As a result, the volumes used to define the levels of authority haveto be determined separately depending on difference in risks associated.

Probability of DefaultThe customer rating is usually taken as an indicator of the probability ofdefault in this case. As such, decision making structure may commensuratewith the risk hierarchical level of risk grading.

Approval Authority for Standardized Credits:

Standardized credits should be shown separately as the degree ofstandardization has a significant influence on the occurrence of procedural andsubstantive errors in the course of the credit approval process. Standardizationcan help reduce both sources of errors considerably. On the one hand, theshorter and usually rigid process structure allows less procedural errors to bemade, and on the other, the credit rating processes applicable to standardizedcredits make it possible to assess the credit standing based on empiricalstatistical analyses and thus independently of the subjective evaluation of a creditofficer or account manager

The standardized retail business in particular including home loan and car loanetc. does mostly without individual interventions in the credit decision process,with the result of the standardized credit rating process being the major basis forthe credit decision. Increasingly, mostly automated decision processes are alsoused in the small business segment. The prerequisite is a clear definition of thedata to be maintained for this customer segment.

Delegation of Authority

FIs are required to establish responsibility for credit sanctions and delegateauthority to approve credits or changes in credit terms. It is the responsibility ofFIs Board to approve the overall lending authority structure, and explicitlydelegate credit sanctioning authority to appropriate authorities. Lending authorityassigned to officers should be commensurate with the experience, ability andpersonal character. It would be better if FIs develop risk-based authority structurewhere lending power is tied to the risk ratings of the obligor. Large FIs may adoptmultiple credit approvers for sanctioning such as credit ratings, risk approvals etcto institute a more effective system of check and balance. The credit policyshould spell out the escalation process to ensure appropriate reporting andapproval of credit extension beyond prescribed limits. The policy should also spellout authorities for unsecured credit, approvals of disbursements excess overlimits and other exceptions to credit policy.


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In cases where lending authority is assigned to the facility originating function,there should be compensating processes and measures to ensure adherence tolending standards. There should also be periodic review of lending authorityassigned to officers.

Qualifications of Authorized Credit Executives

It is essential that executives charged with approving facilities have relevant trainingand experience to carry out their responsibilities effectively. As a minimum,approving executives should have:

At least 5 years working experience in corporate/credit department as arelationship manager or account executive of a FI or Bank. However, if afacility is fully backed by cash or highly liquid security, the experience of thedelegated executives may be relaxed

Training and experience in financial statement, cash flow and risk analysis A thorough working knowledge of Accounting A good understanding of the local industry/market dynamics Successfully completed an assessment test demonstrating adequate

knowledge of the following areas:- Introduction of accrual accounting- Industry / Business Risk Analysis- Borrowing Causes- Financial reporting and full disclosure- Financial Statement Analysis- The Asset Conversion/Trade Cycle- Cash Flow Analysis- Projections- Facility Structure and Documentation- Facility Management

1.4 SEGREGATION OF DUTIES

Adequate segregation of duties is a prerequisite for an effective system of internalcontrol. To be adequate, segregation must ensure that the following functions areperformed by persons independent of each other, although, within limits, certain maybe combined so long there is adequate supervision:

- Credit Approval/Risk Management/Recovery- Relationship Management/Marketing- Credit Administration

The credit approval team will be independent from the sales and branch team whowill evaluate and approve the facility. The Credit Administration department will checkand ensure the documentation and disburse the facilities. This will ensure bettercontrol of the FI asset and mitigate the risk of compromise of the duties. The purposeof the segregation is to improve the knowledge levels and expertise in eachdepartment, to impose controls over the disbursement of authorized facilities andobtain an objective and independent judgment of credit proposals.


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1.5 INTERNAL AUDIT FIs should have a segregated internal audit/control department charged with

conducting audits of all departments Internal audit should verify the continuing adequacy and applicability of credit risk

management policies and procedures, provide an independent assessment of thecredit portfolios' existence, quality and value, the integrity of the credit process, and

promotes detection of problems relating thereto. Every year, internal audit should prepare an auditing plan to be approved by theBoard according to which the audits are carried out. This auditing plan should becarried out in a risk-oriented manner, taking into account size and nature of the creditinstitution, as well as type, volume, complexity, and risk level of the FIs activities.The frequency of auditing the individual audit areas should be stipulated in the FIsinternal guidelines for internal auditing

A comprehensive written audit report has to be prepared following each audit. It willusually be expedient to first report to the head of the audited organizational unit onthe audits findings in the course of a final meeting and to offer the opportunity tocomment on the findings, with these comments to be taken into account in the auditreport. Subsequently, all top executives and department heads are informedaccordingly

It is the task of internal auditing to monitor the swift correction of any problemsdetected in the audit as well as the implementation of its recommendations in asuitable form, and if necessary to schedule a follow-up audit

Assessments of internal audit should, at a minimum, randomly test all aspects ofcredit risk management in order to determine that:

1. Credit activities are in compliance with the FIs credit and accounting policies andprocedures, and with the laws and regulations to which these credit activities aresubjected to

2. Existing credit facilities are duly authorized, and are accurately recorded andappropriately valued on the books of the FI

3. Credit exposures are appropriately rated4. Credit files are complete5. Potential problem accounts are being identified on a timely basis and determine

whether the FIs provision for credit losses is adequate6. Credit risk management information reports are adequate and accurate7. Improvement in the quality of credit portfolio8. Appraise top management

The following audit areas are particularly relevant:

1. All operational and business procedures within the credit institution2. Risk management and risk management control3. The internal review system4. The FIs internal rules and directives5. All mandatory audit areas (especially large-exposure investments, money

laundering and compliance, diligence, reporting requirements, securities tradingbook)

Credit audit is conducted on-site, i.e. at the branch which has appraised the advanceand where the main operative credit limits are made availableReports on conduct of accounts of allocated limits are to be called from thecorresponding branchesCredit auditors may visit borrowers factory/ office premises


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Preferred Organization Structure & Responsibilities


2. PREFERRED RISK MANAGEMENT STRUCTURE & RESPONSIBILITIES

To maintain FIs overall credit risk exposure within the parameters set by the Board ofdirectors, the importance of a sound risk management structure is second to none. Theappropriate organizational structure must be in place to support the adoption of the policies

detailed in Section 1 of these guidelines. While the FIs may choose different structures, it isimportant that such structure should be commensurate with institutions size, complexity anddiversification of its activities. The key feature is the segregation of theMarketing/Relationship Management function from Approval/RiskManagement/Administration functions. It must facilitate effective management oversight andproper execution of credit risk management and control processes.

2.1 PREFERRED RISK MANAGEMENT STRUCTURE

The following chart represents the preferred risk management structure:

The Board of Directors should have the overall responsibility for management of risks. TheBoard should decide the risk management policy of the FI and set limits for liquidity, interestrate, foreign exchange and equity price risks.

Board of Directors

Credit Administration(May report separately

to MD/CEO)

Risk Management Committee(CEO and Heads of Credit, Market, and Operational Risk

Management Committees)

Head of BusinessUnits

RelationshipManagement

/Marketing (RM)

BusinessDevelopment

Other Direct Report(Internal Audit/Etc.)

Credit Risk ManagementCommittee (Committee of top

Executives including CEO, Headsof Credit)

Head of CreditRisk Management

Credit Approval(includes regional

credit centers)

Monitoring /Recovery


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The Risk Management Committee will be a Board level Sub committee including CEO andheads of Credit, Market and Operational Risk Management Committees. It will devise thepolicy and strategy for integrated risk management containing various risk exposures of theFI including the credit risk. For this purpose, this Committee should effectively coordinatebetween the Credit Risk Management Committee (CRMC), the Asset Liability ManagementCommittee and other risk committees of the FI, if any. It is imperative that the independenceof this Committee is preserved. The Board should, therefore, ensure that this is notcompromised at any cost. In the event of the Board not accepting any recommendation ofthis Committee, systems should be put in place to spell out the rationale for such an actionand should be properly documented. This document should be made available to the internaland external auditors for their scrutiny and comments. The credit risk strategy and policiesadopted by the committee should be effectively communicated throughout the organization.

Each FI may, depending on the size of the organization or facility/ investment book,constitute a high level Credit Risk Management Committee (CRMC) . The Committeeshould be headed by the Chairman/CEO/ED, and should comprise of heads of CreditDepartment, Treasury, and Credit Risk Management Department (CRMD). The functions ofthe Credit Risk Management Committee should be as under:

Be responsible for the implementation of the credit risk policy/ strategy approved by

the BoardMonitor credit risk on a FI wide basis and ensure compliance with limits approved bythe BoardRecommend to the Board, for its approval, clear policies on standards forpresentation of credit proposals, financial covenants, rating standards andbenchmarksTaking decisions in terms of capital allocation and defining limits in line with the riskstrategyDecide delegation of credit approving powers, prudential limits on large creditexposures, standards for facility collateral, portfolio management, facility reviewmechanism, risk concentrations, risk monitoring and evaluation, pricing of facilities,provisioning, regulatory/legal compliance, etc.

Concurrently, each FI should also set up Credit Risk Management Department (CRMD),independent of the Credit Administration Department. The CRMD should:

Measure, control and manage credit risk on an organization basis within the limits setby the Board/ CRMCEnforce compliance with the risk parameters and prudential limits set by the Board/CRMCLay down risk assessment systems, develop MIS, monitor quality of facility/investment portfolio, identify problems, correct deficiencies and undertake facilityreview/audit. Large FIs could consider separate set up for facility review/audit.Be accountable for protecting the quality of the entire facility/ investment portfolio.The Department should undertake portfolio evaluations and conduct comprehensivestudies on the environment to test the resilience of the facility portfolio.

Credit risk committees must be distinguished from those committees (often referred to ascredit committees) which have to make decisions on credit approval, extension etc.

The committee usually meets at least once a month and whenever necessary. Theadvantages of the committee structure are the holistic perspective of the credit risk, thepossibility to make decision based on this holistic approach, as well as the fact that severalareas can be integrated resulting in better acceptance of the decisions. Similarly, the


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integration of the chief risk officer and institution-wide risk management control ensures thatthe credit risk is analyzed with regard to the FIs overall risk.

2.2 KEY RESPONSIBILITIESThe key responsibilities of the above functions are as follows. Please also refer to

Appendices 2.1A-D for sample job descriptions:

Credit Risk Management (CRM)Risk Management Functions Oversight of FIs credit policies, procedures and controls relating to all credit risks

arising from corporate/commercial/institutional/personal/ treasury operations Oversight of the FIs asset quality To ensure that lending executives have adequate experience and/or training in

order to carry out job duties effectively.Credit Functions To review Credit Applications recommended by RM and to provide independent

risk assessment and recommendation to MD/CEO/Board for approval To provide advice/assistance regarding all credit matters to line

management/RMs

Monitoring Functions Directly manage all Substandard, Doubtful & Bad and Loss accounts to maximizerecovery and ensure that appropriate and timely facility loss provisions have beenmade

Credit Administration To ensure that all security documentation complies with the terms of approval

and is enforceable To monitor insurance coverage to ensure appropriate coverage is in place over

assets pledged as collateral, and is properly assigned to the FI To control facility disbursements only after all terms and conditions of approval

have been met, and all security documentation is in place To maintain control over all security documentation

To monitor borrowers compliance with covenants and agreed terms andconditions, and general monitoring of account conduct/performance

Relationship Management/Marketing (RM) To act as the primary FI contact with borrowers To maintain thorough knowledge of borrowers business and industry through

regular contact, factory/warehouse inspections, etc. RMs should proactivelymonitor the financial performance and account conduct of borrowers.

To be responsible for the timely and accurate submission of Credit Applicationsfor new proposals and annual reviews, taking into account the credit assessmentrequirements outlined in Section 1.2.1 of these guidelines.

To highlight any deterioration in borrowers financial standing and amend theborrowers Risk Grade in a timely manner. Changes in Risk Grades should beadvised to and approved by CRM.

To seek assistance/advice at the earliest from CRM regarding the structuring offacilities, potential deterioration in accounts or for any credit related issues.

Internal Audit/Control Conducts independent inspections annually to ensure compliance with

Lending Guidelines, operating procedures, FI policies and Bangladesh Bankdirectives. Reports directly to MD/CEO or Audit committee of the Board.


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Procedural Guidelines


3. ZCRO/HCRO supports & forwarded to Head of Business Units (HOBU) within theirdelegated authority and to Head of Credit Risk (HOCR) for onward recommendation

4. HOCR advises the review to ZCRO

5. HOCR & HOBU supports & forwarded to Credit Committee

6. Credit Committee advises the decision as per delegated authority to HOCR & HOBU

7. Credit Committee forwards the proposal to EC/Board for their approval within theirrespective authority

8. EC/Board advises the decision to HOCR & HOBU

The approval process may vary among FIs depending on the types of products andexposure. For example, lending to Corporate and SMEs is mostly unstructured due todiverse nature of risk exposure. On the other hand, consumer lending is mostlystructured by standardizing the product and risk aspects of individuals. As suchapplications for consumer lending may be done within the head of consumer unit subjectto delegation of authority to do so.

Indicative Delegated Approval Authority Levels

Credit Committee Up to 10% of Capital

Management Committee Up to 20% of Capital

Board Above 20% of Capital

3.2 CREDIT ADMINISTRATION

The Credit Administration function is critical in ensuring that proper documentationand approvals are in place prior to the disbursement of financial facilities. For thisreason, it is essential that the functions of Credit Administration be strictly segregatedfrom Relationship Management/Marketing in order to avoid the possibility of controlsbeing compromised or issues not being highlighted at the appropriate level.

Ongoing administration of the credit portfolio is an essential part of the creditprocess. Credit administration function is basically a back office activity that supportand control extension and maintenance of credit. A typical credit administration unitperforms following functions:

3.2.1 DocumentationIt is the responsibility of credit administration to ensure completeness ofdocumentation (facility agreements, guarantees, transfer of title of collaterals etc) inaccordance with approved terms and conditions. Outstanding documents should betracked and followed up to ensure execution and receipt.

Security documents are prepared in accordance with approval terms and are legallyenforceable. Standard facility documentation that has been reviewed by legalcounsel should be used in all cases. Exceptions should be referred to legal counselfor advice based on authorization from an appropriate executive in CRM.


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3.2.2 DisbursementDisbursements under facilities should only be made when all security documentationis in place. CIB report should reflect/include the name of all the lenders with facility,limit & outstanding. All formalities regarding large facilities & facilities to Directorsguided by Bangladesh Bank circulars & related section of financial Institutions Act

should be complied with. All Credit Approval terms must be met beforedisbursement. A sample documentation and disbursement checklist is attached as Appendix 3.2.1 , which FIs may wish to use to control disbursements.

3.2.3 Credit Monitoring After the facility is approved and draw down allowed, the facility should becontinuously watched over. These include keeping track of borrowers compliancewith credit terms, identifying early signs of irregularity, conducting periodic valuationof collateral and monitoring timely repayments.

3.2.4 Facility RepaymentThe obligors should be communicated ahead of time as and when theprincipal/markup installment becomes due. Any exceptions such as non-payment orlate payment should be tagged and communicated to the management. Properrecords and updates should also be made after receipt.

3.2.5 Custodial DutiesFacility disbursements and the preparation and storage of security documentsshould be centralized in the regional credit centers. Appropriate insurance coverageshould be maintained (and renewed on a timely basis) on assets pledged ascollateral. Security documentation should be held under strict control, preferably inlocked fireproof storage.

3.2.6 Compliance Requirements

All required Bangladesh Bank returns should be submitted in the correct format in atimely manner. Bangladesh Bank circulars/regulations are maintained centrally, andadvised to all relevant departments to ensure compliance. All third party serviceproviders (valuers, lawyers, insurers, CA Firms etc.) are approved and performancesare reviewed on an annual basis. FIs should be referred to Bangladesh Bankcircular outlining approved external audit firms that are acceptable.

3.3 CREDIT MONITORING

To minimize credit losses, monitoring procedures and systems should be in placethat provide an early indication of the deteriorating financial health of a borrower. Ata minimum, systems should be in place to report the following exceptions to relevantexecutives in CRM and RM team:

Past due principal or interest payments, past due trade bills, accountexcesses, and breach of facility covenants

Non-receipts of financial statements on a regular basis and any covenantbreaches or exceptions made

Action not taken on time for findings of any internal, external or regulatorinspection/audit


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All borrower relationships/facilities are reviewed and approved through thesubmission of a Credit Report at least annually. Refer to the Credit Report formatattached as Appendix 1.2.1 .

Computer systems must be able to produce the above information for central/headoffice as well as local review. Where automated systems are not available, a manualprocess should have the capability to produce accurate exception reports.Exceptions should be followed up and corrective action taken in a timely mannerbefore the account deteriorates further. Refer to the Early Alert Process (section3.3.1), and Appendix 3.3.1 .

3.3.1 Early Alert process

An Early Alert Account is one that has risks or potential weaknesses of a materialnature requiring monitoring, supervision, or close attention by management.

If these weaknesses are left uncorrected, they may result in deterioration of therepayment prospects for the asset or in the FIs credit position at some future datewith a likely prospect of being downgraded to CRG 5 or worse (Impaired status),

within the next twelve months.

Early identification, prompt reporting and proactive management of Early Alert Accounts are prime credit responsibilities of all Relationship Managers and must beundertaken on a continuous basis. An Early Alert report ( Appendix 3.3.1 ) should becompleted by the RM and sent to the approving authority in CRM for any accountthat is showing signs of deterioration within seven days from the identification ofweaknesses. The Risk Grade should be updated as soon as possible and no delayshould be taken in referring problem accounts to the CRM department for assistancein recovery.

Despite a prudent credit approval process, facilities may still become troubled.Therefore, it is essential that early identification and prompt reporting of

deteriorating credit signs be done to ensure swift action to protect the FIs interest.The symptoms of early alert shown in Appendix 3.3.2 are by no means exhaustiveand hence, if there are other concerns, such as a breach of facility covenants oradverse market rumors that warrant additional caution, an Early Alert report shouldbe raised.

Moreover, regular contact with customers will enhance the likelihood of developingstrategies mutually acceptable to both the customer and the FI. Representation fromthe FI in such discussions should include the local legal adviser when appropriate.

An account may be reclassified as a Regular Account from Early Alert Account statuswhen the symptom, or symptoms, causing the Early Alert classification have beenregularized or no longer exist. The concurrence of the CRM approval authority isrequired for conversion from Early Alert Account status to Regular Account status.

3.4 CREDIT RECOVERY

The Recovery Unit (RU) of CRM should directly manage accounts with sustaineddeterioration (a Risk Rating of Sub Standard (6) or worse). FIs may wish to transferEXIT accounts graded 4-5 to the RU for efficient exit based on recommendation of


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CRM and Corporate FI. Whenever an account is handed over from RelationshipManagement to RU, a Handover/Downgrade Checklist ( Appendix 3.4.1 ) should becompleted.

The RUs primary functions are:

Determine Account Action Plan/Recovery Strategy Pursue all options to maximize recovery, including placing customers into

receivership or liquidation as appropriate Ensure adequate and timely loan loss provisions are made based on actual

and expected losses Regular review of grade 6 or worse accounts

The management of problem facilities (NPLs) must be a dynamic process, and theassociated strategy together with the adequacy of provisions must be regularlyreviewed. A process should be established to share the lessons learned from theexperience of credit losses in order to update the lending guidelines .

3.4.1 NPL Account Management

All NPLs should be assigned to an Account Manager within the RU, who isresponsible for coordinating and administering the action plan/recovery of theaccount, and should serve as the primary customer contact after the account isdowngraded to substandard. Whilst some assistance from Corporate FI/RelationshipManagement may be sought, it is essential that the autonomy of the RU bemaintained to ensure appropriate recovery strategies are implemented.

3.4.2 Account Transfer ProceduresWithin 7 days of an account being downgraded to substandard (grade 6), a Requestfor Action (RFA, Appendix 3.4.2A ) and a handover/downgrade checklist ( Appendix3.4.1 ) should be completed by the RM and forwarded to RU for acknowledgment.The account should be assigned to an account manager within the RU, who shouldreview all documentation, meet the customer, and prepare a Classified Loan ReviewReport (CLR, Appendix 3.4.2B ) within 15 days of the transfer. The CLR should beapproved by the Head of Credit, and copied to the Head of Corporate FI and to theBranch/office where the facility was originally sanctioned. This initial CLR shouldhighlight any documentation issues, facility structuring weaknesses, proposedworkout strategy, and should seek approval for any loan loss provisions that arenecessary.

Recovery Units should ensure that the following is carried out when an account isclassified as Sub Standard or worse:

Facilities are withdrawn or repayment is demanded as appropriate. Anydrawings or advances should be restricted, and only approved after carefulscrutiny and approval from appropriate authorities.

CIB reporting is updated according to Bangladesh Bank guidelines and theborrowers Risk Grade is changed as appropriate

Loan loss provisions are taken based on Force Sale Value (FSV)

Prompt legal action is taken if the borrower is uncooperative


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3.4.3 Rescheduling

FIs should follow clear guideline for rescheduling of their problem accounts andmonitor accordingly

Rescheduling of problem accounts should be aimed at a timely resolution of actual orexpected problem accounts with a view to effecting maximum recovery within areasonable period of time.

Purpose of Rescheduling:

(i) To provide for borrowers changed business condition(ii) For better overdue management(iii) For amicable settlement of problem accounts

Cases for Rescheduling:

Rescheduling would be considered only under the following cases-

(i) Overdue has been accumulated or likely to be accumulated due to change inbusiness conditions for internal or external factors and the borrower is no wayable to pay up the entire accumulated overdue in a single shot.

(ii) The borrower should be in operation and the assets have a productive valueand life for servicing the outstanding liabilities.

(iii) The borrower must be capable of and willing to pay as per revisedarrangement.

Modes of Rescheduling:

Rescheduling can be done through adopting one or more of the following means.(i) Extension of financing term keeping lending rate unchanged(ii) Reduction of lending rate keeping financing term unchanged

(iii) Both reduction of lending rate and extension of financing term(iv) Bodily shifting of payment schedule(v) Deferment of payment for a short-term period with or without extending the

maturity date (this may be a temporary relief to prevent the inevitable collapseof a company).

However, under any circumstances reschedule period must not exceedeconomic life of the asset.

Analysis of Rescheduling Case and decision on different modes of rescheduling:

An account, which has been going through liquidity crisis, may be considered forrescheduling after identifying symptoms, causes and magnitude of the problem. Forrescheduling an account, the criteria mentioned in Bangladesh Bank guideline, if anyhas to be followed strictly.

Post Rescheduling Requirements:

Rescheduling of a contract must require prior approval of CRM and management All rescheduled accounts are to be kept in a separate watch list so that post-

rescheduling performance of the accounts can be monitored closely


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An individual account cannot be rescheduled more than three times

3.4.4 Non Performing Loan (NPL) MonitoringOn a quarterly basis, a Classified Loan Review (CLR) ( Appendix 3.4.2B ) should beprepared by the RU Account Manager to update the status of the action/recoveryplan, review and assess the adequacy of provisions, and modify the FIs strategy as

appropriate. The Board may decide the level of authority for approving the CLRbased on percentage of equity.

3.4.5 NPL Provisioning and Write OffThe guidelines established by Bangladesh Bank for CIB reporting, provisioning andwrite off of bad and doubtful debts, and suspension of interest should be followed inall cases. These requirements are the minimum, and FIs are encouraged to adoptmore stringent provisioning/write off policies. Regardless of the length of time afacility is past due, provisions should be raised against the actual and expectedlosses at the time they are estimated. The approval to take provisions, write offs, orrelease of provisions/upgrade of an account should be restricted to the Head ofCredit or MD/CEO based on recommendation from the Recovery Unit. The Requestfor Action (RFA) ( Appendix 3.4.2A ) or CLR ( Appendix 3.4.2B ) reporting format

should be used to recommend provisions, write-offs or release/upgrades.

The RU Account Manager should determine the Force Sale Value (FSV) for accountsgrade 6 or worse. Force Sale Value is generally the amount that is expected to berealized through the liquidation of collateral held as security or through the availableoperating cash flows of the business, net of any realization costs. Any shortfall of theForce Sale Value compared to total facility outstanding should be fully provided foronce an account is downgraded to grade 7. Where the customer is not cooperative,no value should be assigned to the operating cash flow in determining Force SaleValue.

Force Sale Value and provisioning levels should be updated as and when newinformation is obtained, but as a minimum, on a quarterly basis in the CLR( Appendix 3.4.2.B )

Following formula is to be applied in determining the required amount of provision:

1. Gross Outstanding XXX

2. Less: (i) Cash margin held or FixedDeposits/SP under lien. ( XXX )

(ii) Interest in Suspense Account ( XXX )3. Facility Value

(For which provision is to be created before consideringestimated realizable value of other security/collateral held) XXX

4. Less: Estimated salvage value of security/collateral held ( XXX )(See Note below)

Net Facility Value XXX

Note: The amount of required provision may, in some circumstances, be reduced by anestimated realizable forced sale value of (i.e. Salvage Value) of' any tangible collateral held(viz: mortgage of property, pledged goods / or hypothecated goods repossessed by the FI,pledged readily marketable securities etc). Hence, in these situations, it will be advisable to


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evaluate such collateral, estimate the most realistic sale value under duress and net-off thevalue against the outstanding before determining the Net Facility value for provisionpurposes. Conservative approach should be taken to arrive at provision requirement andBangladesh Bank guideline should be properly followed.

3.4.6 Incentive Programme:

FIs may wish to introduce incentive programmes to encourage Recovery Unit. Account Managers to bring down the Non Performing Loans (NPLs). The table belowshows an indicative incentive plan for RU account managers:

Recovery as a % ofPrincipal plus Interest

Recommended Incentive as % ofnet recovery amount

If CG 7-8 if written off

76% to 100% 1.00% 2.00%51% t0 75% 0.50% 1.00%

20% to 50% 0.25% 0.50%


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Appendices


Appendices

1.2.1 Credit Application Template 27-31

1.2.2 Risk Grade Scorecard 32-35

2.1 (AD) Sample Job Descriptions 36-39

3.1 Credit Administration Flowchart 40

3.2.1 Security Documentation/Disbursement Checklist 41-49

3.3.1 Early Alert Report Template 50-51

3.3.2 Early Alert Characteristics 52

3.4.1 Handover/Downgrade Checklist 53

3.4.2A Request for Action Template 54

3.4.2B Classified Loan Review Template 55-56


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Appendices


CREDIT PROPOSAL Appendix 1.2.1Facilities will only be provided after analysis of the risks associated with the counter-partiesand facilities proposed in writing. A template of the credit application is provided below:

1. EXECUTIVE SUMMARY1.1 FACILITY DETAILS

Group ABC Group Date Date/Month/YearApp Company ABC Company Limited (ABCCL)AddressSectorRelationship SinceFacility Type Disbursed

AmountCurrent

ExposureProposed

FacilityTotal Cumulative

Exposure (if approved)LeaseTerm LoanOther FacilitiesTotalPrev. High. Exposure

1.2 FINANCING PROPOSAL

a) Purpose of Financingb) Tenurec) Secured by

1.3 COMPANY BACKGROUNDCompany brief history, progress, main sponsors, management strength etc.

1.4 ACTIVITIES/MARKET ActivitiesGroup ActivitiesFinancial PerformanceMarket

1.5 KEY RISK ISSUES & MITIGANTHighlight the major risks associated with this particular proposal and its mitigant.

1.6 WHY DO WE WANT TO DO ITIn line with FIs budget & business strategy

1.7 SOURCE OF REPAYMENTPrimary:Secondary:Tertiary:

1.8 CREDIT POLICY COMPLIANCELending Guidelines -Complied/Not compliedCredit Policy -Complied/Not compliedo Please give reason for non compliance.

1.9 PAYMENT PERFORMANCECIB report (Immediate last quarter ending), Performance of existing contracts,Performance with other Banks and FIs


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Appendices


Appendix 1.2.1 (Cont.)2. DETAIL PROPOSAL

2.1 HISTORY/PROGRESS TO DATE This should be brief & kept to key features. In particular, it should cover, when the

business was founded, incorporated, & where appropriately listed.

Major acquisition and mergers could also be included, as should major shareissues.

2.2 OWNERSHIP/ORGANIZATION Legal status of the borrower Ownership structure may be described as per the following format

Name Designation Relationship Taka AmountShareholding

Xx,000 Xx%Xx,000 Xx%

Total Xxx,000 Xxx%

2.3 CORPORATE OBJECTIVE/STRATEGY/VISIONClear and definite Corporate objective, mission, and vision to be mentioned for large,medium, and small enterprises. It enables cross selling of products, as well as tobetter assess risk.

2.4 ACTIVITIES/PRODUCTS/MARKET

o Productso Sourcingo Saleso Market

2.5 CRITICAL SUCCESS FACTORS: 2.6 COMPETITORS

Should include direct and indirect competitors. Implications of a shrinking world and single market concept should be factored in.

2.7 TRIGGER POINTS:Under what circumstances, the credit facility to be called back

2.8 MANAGEMENT, LABOR AND OTHER RESOURCES Who are the key Management? What size is the labor force, male/female, skilled/unskilled? Unionized? Militant?

High turnover of staffs? Training undertaken?

2.9 INFRSTRUCTURE REPORT AS PER VISIT Where is the business located and is this a good location? Physical infrastructure like land, building, machinery Availability of Utilities and connected load Inventory situation Operating condition of the factory

Approval from all regulatory authorities


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Appendices


Appendix 1.2.1 (Cont.)2.10 IMPLEMENTATION SCHEDULEImplementation schedule in case of new project or large expansion

2.11 CREDIT INFORMATION Particulars of facilities currently being enjoyed

Credit check with other Banks & FIs Clarification of any overdue as found in the CIB report

3. ANALYSIS OF RISK

The risks identified and the mitigants for those risks may be presented as per thefollowing format:

Risks Mitigants

There are numerous risks attached to every transactions/relationship but there is aneed for certain fundamental risk aspects to be considered for every relationship.Some of these risks have been identified which will be required to be commentedupon on a mandatory basis.

3.1 BUSINESS RISK

SWOT Analysis on the following:

IndustrySizeMaturityProductionDistributionVulnerabilityCompetitionDemand- supply situationStrategic importance for the group and for the countryConcentrationMarket reputation


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Appendices


Appendix 1.2.1 (Cont.)3.2 FINANCIAL RISK

Key IndicatorsPeriod: Jan-Dec Year-1 Year-2 Year-3 Proj-1 Proj-2

Operating Performance

Turn Over

Gross Profit

Net Profit After TaxBalance Sheet

Fixed Assets

Current Assets

Total Assets

Current Liabilities

Long Term Liabilities

Net Worth

Financial Ratio

Current Ratio

Gearing Ratio

Cash Cycle

ProfitabilityLiquidityDebt managementPost Balance sheet eventsProjectionsSensitivity Analysis:Peer Group Analysis:Other FI Lines:

3.3 MANAGEMENT RISKExperience/relevant backgroundTrack record of management in see through economic cyclesSuccessionReputation

3.4 STRUCTURAL RISKIdentify requirement type of financing facilityRelate the requirement with capacity utilization/sales volume/asset conversioncycle etc.

Purpose of the facilities should be clear and thus mode of disbursement shouldbe preferably structured in a manner to make direct payment to the third partythrough LC, pay order, BB cheques etc.all facilities should be time bound while a small overdraft facility may be allowedbased on the business requirement to cater to the financing needs for paymentsof wages & salaries and other daily expenses.


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Appendices


Appendix 1.2.1 (Cont.)3.5 SECURITY RISK

PerishabliltyEnforceability /Legal structureForced Sale Value (calculations of force sale value should be at least guided byBangladesh Bank guidelines)

3.6 ACCOUNT PERFORMANCE RISKCredit Turnover vs stock movement & salesRepayment track record of working capital facilities and installment facilities

4. REWARD/RELATIONSHIP STRATEGY

Account Strategy: GrowHold/MaintainReduce/RestructureExit

5. RECOMMENDATION

___________________ ____________________________Relationship Manager Head of Business Unit


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Appendices


Appendix 1.2.2CREDIT RISK GRADING SCORE SHEET

Reference No: Date:

Borrower:

Group Name (if any):Branch:Industry/Sector:Date of Financials:Completed by:

Approved by:

Aggregate Score: _________

Risk Grading: _________

Number Grading Short Score1 Superior SUP Fully cash secured, secured by

Government/International BankGuarantee

2 Good GD 85+

3 Acceptable ACCPT 75-844 Marginal/Watchlist MG/WL 65-745 Special Mention SM 55-646 Substandard SS 45-547 Doubtful DF 35-448 Bad/Loss BL


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3. Profitability:Operating Profit Margin (%)

Operating Profit100

Sales

Greater than 25% 20% to 24% 15% to 19% 10% to 14% 7% to 9% 4% to 6% 1% to 3% Less than 1%

1514131210970

4. CoverageInterest Coverage Ratio ()

Earning Before Interest & Tax(EBIT)

Interest on debt

More than 2.00 More than 1.51 Less than 2.00 More than 1.25 Less than 1.50 More than 1.00 Less than 1.24 Less than 1.00

54320

Total ScoreFinancial Risk 50

Criteria WeightB. Business/Industry

Risk 15%

Parameter Score ActualParameter

ScoreObtained

1. Size of Business (Sales in BDTcrore)

> 60.00 30.00 59.99 10.00 29.99 5.00 - 9.99 2.50 - 4.99 < 2.50

543210

2. Business Outlook Favorable Stable Slightly Uncertain Cause for Concern

3210

3. Industry Growth Strong (10%+)

Good (>5% - 10%) Moderate (1% - 5%) No Growth (


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Sample Job Descriptions Appendix 2.1A

Job Title: Head of Credit Risk

Reports to: Managing Director/CEO

Purpose of Job:

To ensure sound asset quality and a prudent credit culture throughout the lending andtreasury trading/underwriting activities of the FI while ensuring the credit approvalprocess is responsive to customer needs and credit losses and collection costs areminimized. To provide an independent assessment of credit and business risks of theFI, and serve on the FIs Asset and Liability Management and Credit approvalcommittees.

Principal Accountabilities:

Credit Risk Management Functions1. Promote strong asset quality and endeavor to ensure that outstanding classified

as Grades 1 to 4 are at least 92% of total outstanding assets.

2. Updating the FIs lending guidelines/credit policies as and when required, but atleast annually.

3. Ensure a prudent level of portfolio diversification.

4. Contribute to the development of credit risk management skills of staff in Credit Administration and Business Unit Marketing departments.

5. Analysis of FIs portfolio risks and provides input/advice to the MD/CEO regardingthe formulation of strategic operating plans.

Credit Functions1. Ensure credit recommendations/approvals are taken in a timely manner.

2. Ensure compliance with internal policies and procedures and external regulatoryrequirements.

Monitoring Functions1. Maximize recovery of problem facilities, and minimize credit losses and collection

expenses.

Agreed by : __________________ ________________________Head of Credit Risk Managing Director / CEO


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Sample Job Descriptions Appendix 2.1B

Job Title: Head of Business Units

Reports to: Managing Director/CEO

Purpose of Job:

To plan, develop and manage the FIs corporate, commercial, retail, and institutionalbusinesses to ensure high profitability and sustained growth in line with the FIs strategicplan, credit policies and business objectives. To coordinate marketing efforts for the FIsbusiness, including the formulation of strategy, establishment of performance trackingsystems and joint campaigns with other FI departments. Serve on the FIs Asset andLiability Management and Credit approval Committees.


1. Oversee the marketing and business development activities of the FIs business.

2. Maximize profitability through cross sales of all FI products and appropriatepricing.

3. Ensure credit quality is maintained and that reviews are current at all times.

4. Ensure a prudent level of portfolio diversification.

5. Ensure compliance with FI Credit Policies and Central Bank regulations.

6. Contribute to the development of relationship management skills of staff inCorporate, Commercial, and retail financing business.

7. Provide input/advice to the MD/CEO regarding the formulation of strategicoperating plans.

Agreed by: _______________________ ____________________________Head of Business Units Managing Director / CEO


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Sample Job Descriptions Appendix 2.1C

Job Title: Credit Administration Manager

Reports to: CEO / MD

Purpose of Job:

To ensure receivable management and plan, organize, direct, control and review theoperational and administrative functions of credit administration department to ensureefficient and effective support to the related departments in line with regulatory and FIpolicy requirements while exercising appropriate control and independent judgment.


Credit Administration

www.bangladesh-bank.org mediaroom circulars fid creditrisk

Documents