Banks are often interested in cash flow generated from sales revenue and income, considering this the main source of money to repay bank loans. The assessment of financial capacity and past production results is important evidence to assess the customer's ability to repay debt.
Information from the income statement and balance sheet is often used to analyze important aspects of a company's operations and financial condition.
Collateral – Loan security: The bank will consider factors such as the legal status of the asset; The possibility of obsolescence, depreciation; The value of the asset; The level of specialization of the asset; The status of being/having been used as security for another loan; Insurance status; The bank's position on the proceeds from the liquidation of the asset.
Conditions – Other conditions: Current competitive position; Customer's performance relative to other competitors in the industry; Product competition; Customer's sensitivity to business cycles and technological changes; Labor market conditions/status in the industry or market area in which the customer operates; Future of the industry; Political, legal, social, technological, environmental factors affecting the customer's business and industry.
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General Comments on the Current Status of Credit Risk Management and Factors Affecting Credit Risk Management at Vpbank -
Current Status of Factors Affecting Credit Risk at Vietnamese Commercial Banks in the Period 2008 - 2016: -
Factors affecting credit risk in credit card business at Vietnam Joint Stock Commercial Bank for Industry and Trade - 14 -
Factors affecting credit risk of Vietnamese commercial banks - 1 -
Factors affecting personal credit risk at Vietnam Joint Stock Commercial Bank for Industry and Trade - Ba Ria Vung Tau Branch - 12
b. 6C model (with additional Control element)
In addition to the 5 factors of the 5C model, the 6C model also adds the Control factor: Current laws, regulations, and statutes related to the credit being considered; Sufficient documents for control work; Loan and disbursement documents must be complete and signed by the parties; The level of conformity of the loan with the bank's regulations and rules; Opinions of economic and technical experts on the industry's environment, on the product, and on other factors that may affect the loan.
c. Z-score model
The Z-score is an early warning tool for corporate bankruptcy and for future bank insolvency.
The Z-score depends on: the borrower's financial situation and the importance of this score in determining past default probability.
The component indices used in calculating the Z-score are:
Z-score is the sum of the indexes and their weights. The weights are not fixed but change depending on whether the company is in the manufacturing or service industry, and whether it has been equitized or not. The Z-score is inversely related to the bankruptcy probability of the enterprise.
For equitized enterprises, manufacturing industry:
If Z > 2.99: The business is in the safe zone, not at risk of bankruptcy.
product
If 1.8 < Z < 2.99: The business is in the warning zone, there may be danger.
bankruptcy
If Z < 1.8: The business is in the danger zone, at high risk of bankruptcy.
For non-equitized enterprises, manufacturing industry:
If Z' > 2.9: The business is in the safe zone, not at risk of bankruptcy.
product
If 1.23 < Z < 2.9: The business is in the warning zone, there may be danger.
bankruptcy
If Z < 1.23: The business is in the danger zone, at high risk of bankruptcy.
For other businesses:
The Z-score below can be used for most industries and types of businesses. Because of the large differences in X 5 between industries, X 5 is given:
If Z' > 2.6: The business is in the safe zone, not at risk of bankruptcy.
product
If 1.2 < Z < 2.6: The business is in the warning zone, there may be a risk.
bankrupt.
If Z < 1.2: The business is in the danger zone, high risk of bankruptcy.
This is a relatively simple credit risk measurement technique, but the model only allows for the classification of risky and non-risky borrowers. In practice, the level of potential risk varies from low levels such as late interest payments, non-payment of interest to high levels such as default on principal and interest payments. In addition, this model does not take into account quantitative factors such as business conditions, changing market conditions, customer reputation, long-term relationships with the bank, and fluctuations in the economic cycle.
d. Expected loss estimation model
Basel II is an international accord on capital adequacy standards, enhancing the governance of financial globalization as well as maximizing profit potential and limiting risk. Under Basel II, banks can determine the expected loss for each loan:
In there:
EL (Expected Loss): Estimated loss.
PD (Probability of Default): the probability that a customer cannot pay his debt, the basis of this probability is data on the customer's past debts, including paid debts, debts within due date and irrecoverable debts.
EAD (Exposure at Default): Total outstanding debt of the customer at the time the customer defaults.
With:
LEQ (Loan Equivalent): is the proportion of unused capital that is likely to be withdrawn by the customer at the time of default.
LEQ x Average unused credit limit (HMTD): is the additional outstanding balance that customers withdraw at the time of default (in addition to the average outstanding balance).
LGD (Loss Given Default): estimated loss ratio, this is the ratio of lost capital to total outstanding debt at the time the customer cannot repay the debt.
The amount recovered is the amount paid by customers and the amount obtained from the processing of mortgaged and pledged assets.
e. Internal credit rating model
The internal credit rating system is built on the basis of building scorecards of financial and non-financial indicators of customers to quantify the risks that the bank may face. The internal credit rating system uses separate scoring and rating methods for each customer group. Usually, customers can be divided into 2 groups: businesses and individuals.
Step three: Credit risk monitoring
Based on the risk report, the bank's management can give better credit direction and credit control, and this is also a useful source of input information to build development strategies in each period and in the long term. There are many types of reports prepared in the process of credit risk management.
First, after studying the customer profile, the appraisal department prepares a report on the legality, finance, management capacity, debt repayment capacity and collateral of the borrower. Once the credit has been granted, the bank needs to regularly update
Information about each customer, each customer group by field, industry, location,... with weekly, monthly, quarterly or annual frequency depending on information needs. Based on the report, the bank's management can:
- Get an overall picture of the characteristics of the entire credit portfolio.
- Detect areas of high risk concentration in the credit portfolio, and detect risks concentrated in related customers or groups of customers.
- Assess the level of risk concentration.
- State the changes in risk and credit quality when restructuring debt for each customer.
- Assess the risk of collateral.
- Have appropriate measures to manage risks to recover debts fully and quickly.
- Full risk provisioning.
Step 4: Credit Risk Financing
a. Provision and use of credit risk reserves
As soon as there are signs of loss, the bank sets aside provisions based on the severity of the risk to cover future losses without affecting the bank's capital. Based on the results of risk measurement, the bank divides the credit portfolio into groups and sets aside provisions for credit risks at appropriate rates for each group.
According to Circular No. 02/2013/TT – SBV issued on January 21, 2013 on classification, provisioning level, risk provisioning method and use of provisioning to handle credit risks in banking activities for debts (postponed until June 1, 2014), including assets with debt classification, bank debts are divided into 5 groups as follows: Group 1 (Standard debt); Group 2 (Debt requiring attention); Group 3 (Substandard debt); Group 4 (Doubtful debt); Group 5 (Debt with potential loss of capital)
After classifying debt, banks need to set aside specific provisions at the following rates: Group 1: 0%; Group 2: 5%; Group 3: 20%; Group 4: 50%; Group 5:
100%.
Specific provision level:
In there:
∑
R: Total specific reserve amount to be set aside for each customer.
R i : Specific provision amount to be set aside by each customer for the principal balance of the i-th debt, with the formula:
With:
A i : Principal balance of the i th loan.
C i : discounted value of collateral, financial leasing assets (hereinafter referred to as collateral) of the i-th debt.
r: specific provisioning ratio for each group is prescribed. In case A i > C i : R i = 0.
In addition, banks must also set aside general provisions for outstanding loans from group 1.
to group 4 at a rate of 0.75%.
b. Provide additional capital, restructure debt repayment period or waive interest and principal
Along with setting aside risk provisions, banks actively urge customers to repay their debts. However, in some cases, banks have to provide additional capital to customers. This is often applied to customers who are well-rated, have a long-term relationship with the bank, and have feasible projects - but due to some conditions, they are temporarily unable to repay their debts to the bank. Providing additional capital not only helps the bank's customers overcome difficult times but also strengthens this relationship.
However, if the bank still doubts the ability to recover the debt, instead of providing more capital, restructure the debt repayment period. Restructuring the debt repayment period is when the bank
Allow customers to extend the time to pay principal and interest; will help customers reduce debt repayment pressure. If the reason for not being able to pay debt is considered objective, with the view of sharing risks with customers, the bank can also consider reducing interest and principal for customers.
c. Sale of secured assets
For customers with financial difficulties, business losses that are difficult to overcome, debts that have been extended but have not been paid or the source of payment has not been determined, banks (mostly Group 5 debts) need to strictly manage the customer's loans, and at the same time review the legal documents and the status of the collateral to consider the possibility of foreclosure to recover capital. Then coordinate with state authorities to liquidate the loan collateral according to the procedures prescribed in legal documents.
For unsecured loans, banks need to strictly control customers' financial resources, receivables, payment capital sources of projects through annual capital announcements for the construction sector, collection periods for other sectors and require customers, investors and buyers to commit to transferring payments to customers' accounts at the bank. On the other hand, banks can advise customers to reduce ineffective assets that are not needed to repay loans.
d. Debt sale
Banks can sell debts to other financial institutions to quickly recover capital and avoid legal disputes with borrowers. This debt sale is considered the fastest way to handle bad debts, helping banks recover part of their capital. Debt buyers can restructure the borrowing enterprise, restore business operations and resell it to other investors to recover investment capital and seek profits. In addition, bad debts can be handed over to a debt management company under the bank to continue monitoring the debts to recover debts through handling assets securing the debt, exploiting the secured assets, and continuing to pursue lawsuits to recover part of the debt from the liquidation of assets of the bankrupt enterprise.
assets,... This is the direction that some banks have taken. However, implementing this solution, banks still spend a lot of time and money to recover bad debts, and still have to maintain a separate apparatus and department to manage bad debts.
e. Convert debt into equity
Converting bad debt on the balance sheet and debt that has been handled at risk into equity at the enterprise, there can be many ways to handle bad debts, including converting bad debt into equity at the enterprise, especially for potential enterprises. Banks will often require customers to restructure, resulting in the company having sustainable operations and not falling into bankruptcy. It can be seen that converting debt into equity associated with enterprise restructuring is a new direction in thoroughly handling bad debt and contributing to improving the financial situation of the economy in general and of creditors in particular. However, it should be noted that banks should not participate too deeply in areas that they do not specialize in, because they will not be able to make effective business decisions without experience in that field.
1.3.4. Factors affecting credit risk management of commercial banks
Banking management activities in general and credit risk management activities in banks in particular are highly comprehensive, related to all areas of banking operations. Therefore, there are many factors affecting the effectiveness of credit risk management, but basically include a group of subjective factors from the bank or from the customer and a group of objective factors from the macro environment.
1.3.4.1. Group of subjective factors
a) Subjective factors from the bank
- Qualifications and professional ethics of bank staff at all levels
This is the most important factor determining the effectiveness of a bank's credit risk management, because all policies and their implementation must be approved by bank staff at all levels.