3.5.2 Classification on characteristics of financing:

  Funded                                                                          Non-funded
       
 Overdraft                                                               * Letter of Credit
 Loan                                                                      * Bank Guarantee  
 Consumer Credit
 LTR
 PAD
 Cash Credit (Pledge & Hypo)
 Staff Loan
 Term Loan
 Packing Credit

The varieties used by DBL are briefly described below with the common terms and condition. Banks generally offer different kinds of credit facilities to the customers.

The credit facilities of DBL may be broadly classified into five categories. They are as follows:

 Loans
 Cash Credit
 Overdraft
 Bills purchased and discounted
 Consumer Credit/ personal loan

They are discussed below accordingly.

3.5.2.1 Loan

In case of loan the banker advances a lump sum for a certain period at an agreed rate of interest. The entire amount is paid on an occasion either in cash or by crediting in his current account, which he can draw at any time. The interest is charged for the full amount sanctioned whether he withdraws the money from his account or not. The loan may be repaid in installments or at expiry of a certain period. Loan may be demand loan or a term loan.

Eligibility: loans are normally allowed to those parties who have either fixed source of income or who desire to pay it in lum sum.
Interest Rate: 12%-15% per annum (Quarterly paid).

3.5.2.2 Cash Credit

In Cash credit, banker specifies a limit called the cash credit limit, for each customer, up to which the customer is permitted to borrow against the security of tangible assets or guarantees.  Cash credit is given through the cash credit account. The purpose of cash credit is to meet working capital need of traders, farmers and industrialists.
Cash credit in true sense is against pledge of goods. Cash credit is also allowed against hypothecation of goods. In case of hypothecation the ownership and possession of the goods remain with the borrower. By virtue of the hypothecation agreement bank can take possession of the goods hypothecated, if the borrower defaults.

Rate of Interest: 12%-14%.
Renew System: it is renewed in periodic basis (yearly).

3.5.2.3 Overdraft

Overdraft are those drawings which are allowed by the banker in excess of the balance in the current account up to a specified amount for definite period as arranged for. These advances are secured The loan holder can freely draw money from this account up to the limit and can deposit money in the account off course, this loan has an expiry date after which renewal or enhancement is necessary for enjoying such facility.  Any deposit in the OD account is treated as repayment of loan. Interest is charged as balance outstanding on quarterly basis. Overdraft facilities are generally granted to businessmen for expansion of their business, against the securities of stock-in-trade, shares, debenture, Government promissory notes, fixed deposit, life insurance policies etc.

3.5.2.4 Bills purchased and discounted

Banks grant advances to their customers by discounting bill of exchange or pro-note.

3.5.2.5 Personal Loan (Consumer Credit Scheme)

Objectives :

The objectives of this loan are to provide essential household durable to the fixed income group (Service Holders) and other eligible borrowers. Car loan, loan for house renovation, vacation loan, marriage loan and loan for household equipment well as entertainment products are governed by personal loan program. The Total amount of loans along with the duration in which these loans taken, need to be repaid is given below:

Type of Product	Loan Amount (Tk) Lac	Tenure
1. Vehicle	Up to 7.00	4 to 5 years
2. Household items for Businessman	1.00	2 years
3.Household items for Service holders	Up to 3.00	2 to 3 years
4. Others	Special Considerations	Special Considerations

Personal loan is given under personal guarantee of the borrower and another third parson known to the borrower. As this loan is collateral free the rate of interest is little bit high such as 15% to 18%. There is also a processing fee of 1.5% taken at the time of disbursement of the loan.

3.6 Credit Ratification Authority of DBL:

Credit decisions are heart of all credit works. Generally branch manager and the credit in-charge of a branch are held responsible for appraising of a loan proposal. The customer request for credit limit and the credit officer prepares a credit memo and send it to the head office, credit division. After taking all the relevant information from the branch the head office credit division sent the credit memo to the credit committee. Credit committee of DBL is comprised of Managing Director and other top-level executives, that is, DMDs and EVPs. If credit committee is convinced about the merit of the proposal then it is sent the broad of directors. The board is final authority to approve or decline a proposal. The whole process takes a month or more.  In DBL broad meeting occurs once in every week.

3.7 Credit Evaluation Principles

Some principles or standards of lending are maintained in approving loans in order to keep credit risk to a minimum level as well as for successful banking business. The main principles of lending are given below:

3.7.1 Liquidity:

Liquidity means the availability of bank funds on short notice. The liquidity of an advance means it repayment on demand on due date or after a short notice. Therefore, the banks must have to maintain sufficient liquidity to repay its depositors and trade off between the liquidity and profitability is must.

3.7.2 Safety:

Safety means the assurance of repayment of distributed loans. Bank is in business to make money but safety should never be sacrificed for profitability, To ensure the safety of loan. The borrower should be chosen carefully. He should be a person of good character & capacity as well as bank must have to maintain eligible number of security from borrower.

3.7.3 Profitability:

Banking is a business aiming at earning a good profit. The difference between the interest received on advances and the interest paid on deposit constitutes a major portion of the bank income, Besides, foreign exchange business is also highly remunerative. The bank will not enter into a transaction unless a fair return from it is assured.

3.7.3 Intent:

Banks sanction loans for productive purpose. No advances will be made by bank for unproductive purposes though the borrower may be free from all risks.

3.7.4 Security:
 
The security offered for an advance is an insurance to fall bank upon incases of need. Security serves as a safety value for an unexpected emergency. Since risk factors are involved, security coverage has to be taken before a lending.

3.7.5 National interest:

Banking industry has significant roll to play in the economic development of a country. The bank would lend if the purpose of the advances can contribute more to the overall economic development of the country.

3.8 Pre-disbursement Compliance

When the credit proposal are approved the credit officer must have to be ensured that the disbursement of the credit facilities must comply with the directions written in the credit policy and circular made by time to time along with checking all the following terms and conditions.

 The officer of Loan Administration must collect the acceptance of the customer’s of the terms and conditions on the duplicate copy of the sanctioned advice.

 They will thoroughly examine and ensure that the subject credit facility does not contradict to any law, rules and regulation of the country, Bangladesh Bank and

 Deed of the Mortgage and power of the Attorney to be drafted and executed under the Supervision of the Bank’s Legal Advisor.

 Lawyers certificate to the effect that all the legal formalities (Equitable/ Registered Mortgaged) has been properly created on the land and building in favor of the bank & bank has acquired the effective title of the property.

 Registered power of attorney has been collected form the borrower (contractor) assigning the work order favoring the DBL and the power of attorney has been registered with the work order given agency and they have agreed that they will issue all the cheques favoring DBL.

 The legal documents of the vehicle have been obtained.

 Collection of the satisfaction certificate in respect of all the documents both legal and banking from the lawyer.

 Entry has been made in the Safe -in  and Safe-out register and the documents are preserved.

After being satisfied all the above terms and conditions the credit in-charge will disburse the loan amount to the client.

3.9 Documentation of the Loan:

Documentation is obtaining such agreement where all the terms and condition and securities are written and signed by the borrower. It specifies rights and liabilities of both the banker and the borrower. In documentation each type of advances requires a different set of documents. It also differs with the nature of securities. The documents should be stamped according to the stamp Act. There are no hard and fast rules of documentation and it varies from bank to bank. Generally, the documents are taken in the case of a secured advance by DBL:

i. Demand promissory note: Here the borrower promises to pay the loan as and when demand by bank to repay the loan.

ii. Letter of arrangement.

iii. Letter of continuity.

iv. Letter of hypothecation of goods and capital machinery.

v. Stock report: This report is used for OD and CC. In this report, information about the quality and quantity of goods hypothecated is furnished.

vi. Memorandum of deposit of title deed of property duly signed by the owners of the property with resolution of Board of Directors of the company owning the landed.

vii. Personal guarantee of the owners of the property.

viii. Guarantee of all the directors of the company.

ix. Resolution of the board of directors to borrow fund to execute documents and completes other formalities

x. Form no. XVII/XIX for filling charges with the register of joint stock companies under relevant section.

xi. Letter of Revival

xii. Letter of lien for advance against FDR.

3.10 Security against Advances:

The different types of securities that may be offered to a banker are as follows:

(a) Immovable property
(b) Movable property

i. Pratiraksha Sanchaya Patra, Bangladesh Sanchaya Patra, ICB unit certificate, wage earner development bond.

ii. Fixed Deposit Receipt

iii. Shares quoted in the Dhaka Stock Exchange and Chittagong Stock Exchange.

iv. Pledge of goods

v. Hypothecation of goods, produce and machinery

vi. Fixed assets of manufacturing unit.

vii. Shipping documents.

3.10.1 Relation between Advance with the Security

Types of advance	Securities
Loans	Lien or various kinds of Sanchaya patras, Govt. Securities, FDR, Collateral of immovable property, shares quoted in stock exchange
Overdraft	Pledge or hypothecation of machinery, land and building on which machinery are installed, stock in trade, goods products and merchandise.
Bills purchased	Bills itself

3.10.2 Modes of Charging Security:

A wide range of securities is offered to banks as coverage for loan. In order to make the securities available to banker, in case of default of customer, a charge should be created on the security. Creating charge means making it available as a cover for advance. The following modes of charging securities are applied in the Dhaka Bank Limited.

3.10.2.1 Lien

A lien is right of banker to hold the debtor’s property until the debt is discharged. Bank generally retains the assets in his own custody but sometimes these goods are in the hands of third party with lien marked. When it is in the hand of third party, the third party cannot discharge it without the permission of bank. Lien gives banker the right to retain the property not the right to sell. Permission from the appropriate court is necessary. Lien can be made on moveable goods only such as raw materials, finished goods, shares debentures etc.

3.10.2.2 Pledge

Pledge is also like lien but here bank enjoys more right. Bank can sell the property without the intervention of any court, incase of default on loan, But for such selling proper notice must be given to the debtor. To create pledge, physical transfer of goods to the bank is must.

3.10.2.3 Hypothecation

In this charge creation method physically the goods remained in the hand of debtor. But documents of title to goods are handed over to the banker. This method is also called equitable charge. Since the goods are in the hand of the borrower, bank inspects the goods regularly to judge it s quality and quantity for the maximum safety of loan.

7.10.2.4 Mortgage:

Mortgage is transfer of interest in specific immovable property. Mortgage is created on the immovable property like land, building, plant etc. Most common type of mortgage is legal mortgage in which ownership is transferred to the bank by registration of the mortgage deed. Another method called equitable mortgage is also used in bank for creation of charge. Here mere deposit of title to goods is sufficient for creation of charge. Registration is not required. In both the cases, the mortgage property is retained in the hank of borrower.

3.10.2.5 Trust Receipt

Generally goods imported or bought by bank's financial assistance are held by bank as security. Bank may release this lien / pledge these goods against trust receipt. This means that the borrower holds goods in trust of the bank, trust receipt arrangement is needed when the borrower is going to sell this goods or process it further but borrower has no sufficient fund to pay off the bank loan. Here proceeds from any part of these goods are deposited to this bank.

3.10.2.6 Advance against Work-Order

Advances can be made to a client to perform work order. The following points are to be taken into consideration.
The client’s management capability, equity strength, nature of scheduled work and feasibility study should be judiciously made to arrive at logical decision. If there is a provision for running bills for the work, appropriate amount to be deducted from each bill to ensure complete adjustment of the liability within the payment period of the final bill besides assigning bills receivable, additional collateral security may be insisted upon. Disbursement should be made only after completion of documentation formalities and fulfillment of arrangements by the client to undertake the contract. The progress of work under contract is reviewed periodically.

3.10.2.7 Advance against Approved Shares:

Credit facilities to extend against shares will be called “Investment Scheme against Shares”. Advance may be allowed against shares of companies listed with the Stock Exchange Ltd. Subject to margin or may other restrictions imposed by Bangladesh Bank/Head Office of the bank from time to time. Value of shares & margin should be worked out as per guidelines issued from time to time by Bangladesh Bank / Head Office of the bank.

3.10.2.8 Advance against Fixed Deposit Receipts:

Advance against Fixed Deposit Receipt will be subject to credit Restrictions imposed from time to time by Head Office / Bangladesh Bank. Scrutinize the Fixed Deposit Receipts with regard to the following points.

a) The Fixed Deposit Receipt is not in the name of minor.

b) It is discharged by the depositor on revenue stamp of adequate value & his signature is verified.

c) Creation of liability on Fixed Deposit issued in joint names by any one of the depositors is regular.

d) If the Deposit Receipt is offered as a security for allowing advances, a letter of lien shall be obtained from the depositors, on the appropriate form.

e) If the Deposit Receipt has been issued by the branch-allowing advance, lien against that specific Deposit Receipt to be marked in the fixed Deposit Register of the branch.

f) The discharged receipt, the letter of lien duly verified by the issuing branch & the letter confirming registration of the lien on the deposit receipts shall be kept along with other documents under safe custody of the bank.

3.11 Credit Monitoring and Review:

It is the last step in credit policy and procedure framework of DBL. Credit monitoring and review is very important, because it ensures proper utilities and repayment of bank fund. Credit monitoring and review feature of DBL is concerned was assessing the quality of different type of loan.
 
Periodic review and follow up should, inter-alia aims at ensuring:

 That conduct (Turnover, regularity of repayment etc) of the borrowing accounts during the period under review has been satisfactory or as expected.

 The account is not having excess over limit

 The terms and condition of the sanctioned letter are strictly followed.

 The value of the collateral security is adequate.

 There is not any unfavorable situation in market, economy and political conditions, which may endanger the reliability of the borrower account.

  The analysis of the borrowers business performance and comparison of the projected and actual to find any deviations.

 Apparent profitability from the loans

3.12 Classification of the Loan on the Basis of Security

For internal use, banks classify the loan and advance on the basis of how much the bank is secured in respective of the loan:

Table 1 Classification on the basis of security

Security	2003	2002
Debts considered good in respect of which the bank is fully secured	Tk.9,164,399,974	Tk. 8,905,717,569
Debts considered good for which bank holds no other security than the debtors personal security	Tk.1,912,967,379	Tk.1,422,195,631
Debts considered good and secured by the personal security of one or more parties in addition to the personal security of the debtor.	Tk, 1302,949,636	Tk824,412,906

3.13 Objective Basis of Classification

In classifying the loan and advance there are four classes in the loan review practiced in Dhaka Bank Limited. They are as follows:

3.13.1Unclassified:

The loan account is performing satisfactorily in the terms of its installments and no overdue is occurred. This type of loan and advances are fall into this class.

3.13.2 Substandard:

This classification contains where irregularities have been occurred but such irregularities are temporarily in nature. To fall in this class the loan and advance has to fulfill the following factor.

Category of Credit	Time overdue (irregularities)	Substandard
S-T Agri & Micro Credit	3 months & above but less than 6 months.
Continuous loan
Demand Loan	Un-recovered for 3 months & above but less than 6 months from the date of the loan is claimed.
Fixed Term loan	Repayable within 5years: If the overdue installment equals or exceeds the amount repayable within 6 months.
	Repayable more than 5years: If the overdue installment equals or exceeds the amount repayable within 12 months.

The main criteria for a substandard advance is that despite these technicalities or irregularities no loss is expected to be arise for the bank. These accounts will require close supervision by management to ensure that the situation does not deteriorate further.

3.13.3 Doubtful:

This classification contains where doubt exists on the full recovery of the loan and advance along with a loss is anticipated but can not be quantifiable at this stage. Moreover if the state of the loan accounts fall under the following criterion can be declared as doubtful loan and advance. 

Category of Credit	Time overdue (irregularities)	Doubtful
S-T Agri & Micro Credit	6 months & above but less than 12 months.
Continuous loan
Demand Loan	Un-recovered for 6 months & above but less than 12 months from the date of the loan is claimed.
Fixed Term loan	Repayable within 5years: If the overdue installment equals or exceeds the amount repayable within 12 months.
	Repayable more than 5years: If the overdue installment equals or exceeds the amount repayable within 18 months.

3.13.4 Bad and Loss:

A particular loan and advance fall in this class when it seems that this loan and advance is not collectable or worthless even after all the security has been exhausted. In the following table the criteria to be fulfilled to fall in this category are summarized: 

Category of Credit	Time overdue (irregularities)	Bad and Loss
S-T Agri & Micro Credit	Not recovered within more than 12 months.
Continuous loan
Demand Loan	Un-recovered more than 12 months from the date of the loan is claimed.
Fixed Term loan	Repayable within 5years: If the overdue installment equals or exceeds the amount repayable within 18 months.
	Repayable more than 5years: If the overdue installment equals or exceeds the amount repayable within 24 months.

3.14 Qualitative Judgment Basis of Classification

Beside the above-mentioned objective criteria, Dhaka Bank Limited has other few qualitative judgment for classifying the loan and advance. This judgement totally depends on the Branch Manger and or the Head office credit division. Whether any continuous credit, demand loan, fixed term loan are classified or not on the basis of the above mentioned objective criterion but if there is any doubt or uncertainty as regarding their recovery then the loan can be classified on the basis of the Qualitative Judgment. The qualitative factors that are considered in Dhaka Bank Limited are as follows:

 Borrower sustains a loss of capital.

 Significant decrease in the value of the security.

 Weakening of bank’s position as creditor due to any reason whatsoever.

 Diversification of the funds to uses other than the facility for which the credit was approved.

 Incorrect information supplied by the borrower or bankruptcy of the borrower.

 Credit is rescheduled frequently or the rules of rescheduling are violated or a suit is filed for the recovery of the credit.

Last year the classification of the loan and advance of Dhaka Bank Limited were like this

Table: Classification position last three years.   Tk in million

Year	Unclassified	Substandard	Doubtful	Bad
2002	10940	12	5	250
2003	12470	200	20	200

3.15 Management of Delinquent Client

When a problem loan is detected the responsible branch manager takes the corrective action and tries to minimize the loan losses allowing different facilities to the client. The steps practice in Dhaka Bank Limited to manage the delinquent loan are:

 Persuasion: This is the first step practiced in the DBL to mange the problem loan.

 Negotiation: If the persuasion failed, the loan officer negotiates a plan of action with the borrower to try to extract both the bank and the borrower from possible loss. This calls for certain sacrifices on the part of the bank and borrower in their mutual interest.

 Litigation: If after rescheduling the loan and or failed to negotiate with the delinquent client, DBL go for taking legal action against the delinquent client to recover the loan.

3.16 Provisioning

Specific Provision:

Head office credit division prepares a list of credit accounts, which are considered to be totally or partially be unrecoverable & keeps a provision against the outstanding loans.

Rate of Provisioning

Dhaka Bank Limited in the time of loan provisioning to get the real picture of the income mainly follow the Bangladesh Bank guideline. The rate of provisioning used in DBL is summarized in the following table.

Table 4: Rate of provisioning

Class	Short Term Agriculture credit.	All other credit
	Rate of Provisions
Unclassified (UC)	5%	1%
Substandard (SS)	5%	20%
Doubtful	5%	50%
Bad or Loss	100%	100%

3.17 Credit Appraisal System

The function of commercial banks to collect deposit from the common people and to invest deposited money in different sectors for overall development of the economy of the country. So the banks have to be very much careful in credit appraisal. The person who is primarily held responsible for appraising a loan proposal in Dhaka Bank limited is called the credit officer.

The most important measure of appraising a loan proposal is safety of the project. Safety is measured by the borrower and repaying capacity of him. The attitude of the borrower is also an important consideration, liquidity means the inflow of cash into the project in course of its operation. The profit is the blood for any commercial institution. Before approval of any loan project the bank authority has to be sure that the proposed project will be a profitable venture. Profitability is assessed from the projected profit and loss statement. The security is the only tangible remains with the banker. Securing or collateral it is accepting must be easy to sell and sufficient to cover the loan amount. But bank cannot sanction loan by only depending on collateral. The sources of repayment of the project should be a feasible one. During sanctioning any loan bank has to be attentive about diversification of risk. All money must not be disbursed amongst a small number of people. In addition any project must be established for the national interest and growth.

Commercial banks and financial institutions intermediate between lenders and borrowers. These financial intermediaries collect deposit and disburse it as loan and advance to the individual people, business, commercial, industrial entity. The loan and advance should be given to them who has the certain and predicted cash flow to repay the credit. If the relationship manager fail to analyze the clients viability of repaying the loan and the projects cash flow possibility of default may arise due to the fact. So the importance of APPRAISAL, in sanctioning the loan, is the key to identify the borrowers ability, expertise, efficiency, industry analysis, business performance to ensure the recovery of the credit along with the good supervision, monitoring and the relationship. In a word it can be said that the purpose of appraisal is to be sure that the proposed advance will be safe, liquid, and profitable and for acceptable purpose covered by adequate security. At the time of credit proposal the bank has to come to an acceptable compromise between over caution and under caution. 

3.18 Guiding Principle of Credit appraisal of DBL for Credit Officer:

To determine the worth of a client, the following conceptual exercises should be undertaken. There are no fixed and set methods to perform credit marketing, and scope for application of individual judgment/ perception always plays over set rules in such work. For example, drop in revenue of a contractor may indicate the client’s failure to get work, or it may be due to adaptation of policy to do higher margin quality jobs.

3.18.1 Industry Information:

Gather and evaluate industry information, where the client is, which may be done in the following aspects:

3.18.2 Management Capabilities:

There is no set rules to quantify/ confirm management's intentions/ capabilities. Nevertheless, different aspects of the management of the client have to be mentally perceived and recorded on best judgment/ effort basis. Management information can be gathered and evaluated in the following angles:

3.18.3 Financial Strength:

(C) Accounts /Financial information should be evaluated in the following directions:

3.18.6 Socio-economic:

A very important job of the relationship officer is to follow up and maintain information on the client, the business/ industry environment, politico‑economic developments within the country of operations as well as globally to look out for early signals of emergence of problems. The following may be some guidance for such follow up:

 3.18.7    Overall Portfolio Management:

The term means managing total exposure on different clients, in different industries of product or service, enjoying different types of facilities. The management may take into consideration the following

3.19.1 Application for loan:

Applicant applies for the loan in the prescribed form of bank. The purpose of this forms is to eliminate the unwanted borrowers at the first sight and select those who have the potential to utilize the credit and pay it back in due time.

3.19.2 Getting Credit information:

Then the bank collects credit information about the borrower from the following sources:

1. Personal Investigation

2. Confidential report from other bank/ Head office/Branch/Chamber of commerce

3. CIB report from central bank

3.19.3 Scrutinizing and Investigation:

Bank then starts examination that whether the loan applied for is complying with its lending policy. If comply, than it examines the documents submitted and the credit worthiness. Credit worthiness analysis, ie. analysis of financial conditions of the loan applicant are very important. Then bank goes for Lending Risk Analysis (LRA) and spreadsheet analysis, which are recently introduced by Bangladesh Bank. According to Bangladesh Bank rule, LRA and SA is must for the loan exceeding Dhaka core.

If these two analyses reflect favorable condition and documents submitted for the loan appears to be satisfactory then, bank goes for further action.

3.19.4 Existing process of handling loans:

The process of sanctioning loans is as follows:

3.19.5 The C’s of Good & Bad Loan:

The Branch manager of DBL try to judge the possible client based on some criteria. These criteria are called the C’s of good and bad loans. These C’s are described below:

3.19.5.1 Character

The outcome of analyzing the character is to have overall idea about the integrity, experience, and business sense of the borrower. Two variables; Interaction/interview, and Market Research are used to analyze the character of the borrower.

1. Interaction/interview: the indicators are
a) Prompt and consistent information supply, information given has not been found false (Willingness to give information).
b) CIB also reveals business character.
c) Willingness to give owns stake/equity & collateral to cover.
d) Tax payer.

2.  Market Research:
a) Information on business is verified.
b) Dealing with supplier and or customer as supplier is also a kind of lender; the payment character can also be verified.
3.19.5.2 Capital

For identifying the capital invested in the business can be disclosed using the following indicators.

a) Financial Statements
b) Receivable, Payable, statements to practically assess the business positions. Net worth through financial statements or from declaration of Assets & Liabilities.

3.19.5.3 Capacity (Competence)

Capability of the borrower in running the business is highly emphasized in the time of selecting a good borrower. As the management of the business is the sole authority to run the business that is use the fund efficiently, effectively and profitably.  The indicators help to identify the capacity of the borrower.

a) Entrepreneurship skills i.e. risk taking attitude shown by equity mobilization.
b) Management competencies both marketing and products detail, ability to take decision.
c) Resilience or shock absorption: Connection, Back up (if first time falls second lines come to help.)

3.19.5.4 Collateral

Make sure that there is a “second way out “ of a credit, but do not allow that to drive the credit decision.

3.19.5.5 Cash Follow:

Cash flow is the vital factor that is used to identify whether the borrower will have enough cash to repay the loan or advance. Cash keeps the liquidity to ensure repayment. The relationship manager try to identify the annual cash flow from the submitted statements.

3.19.5.6 Conditions:

Understanding the business and economic conditions can and will change after the loan is made.

3.19.5.7 Complacency:

Do not rely on past history to continue. Stay alert to what can go wrong in any loan.

3.19.5.8 Carelessness:

Remember that documentation, follow-up and consistent monitoring are essential to high quality loan portfolios.

3.19.5.9 Communication:

Share credit objectives and credit decision making both vertically and laterally within the bank.

3.19.5.10 Contingencies:

Make sure that you understand the risks, particularly the downside possibilities and that you structure and price the loan consistently with that understanding.

3.19.5.11 Competition:

Do not get swept away by what others are doing.

3.20 Credit Query:

The loans and advance department gets a form filled up by the party seeking a lot of information. The typical credit query form is attached in the appendix iii.

The Financial Sector Reform Project (FSRP) has designed the LRA package, which provides a systematic procedure for analyzing and quantifying the potential credit risk. Bangladesh Bank has directed all commercial bank to use LRA technique for evaluating credit proposal amounting to Tk. 10 million and above. The objective of LRA is to assess the credit risk in quantifiable manner and then find out ways & means to cover the risk. However, some commercial banks employ LRA technique as a credit appraisal tool for evaluating credit proposals amounting to Tk. 5 million and above. Broadly LRA package divides the credit risk into two categories, namely      

Business risk
Security risk.

A detail interpretation of these risk and the procedure for evaluating the credit as follows

3.21.1 Business risk:

It refers to the risk that the business falls to generate sufficient cash flow to repay the loan. Business risk is subdivided into two categories.

3.21.2 Industry risk.

The risk that the company fails to repay for the external reason. It is subdivide into supplies risk and sales risk.

3.21.3 Supplies risk:

It indicates that the business suffers from external disruption to the supply of imputes. Components of supplies risk are as raw material, Labor, power, machinery, equipment, factory premises etc. Supply risk is assessed by a cost breakdown of the inputs and then assessing the risk of disruption of supplies of each item.

3.21.4 Sales risk:

This refers to the risk that the business suffers from external disruption of sales. Sales may be disrupted by changes to market size, increasing in competition, change in the regulation or due to the loss of single large customer. Sales risk is determined by analyzing production or marketing system, industry situation, Government policy, and competitor profile and companies strategies.

3.21.5 Company risk:

This refers to the risk that the company fails for internal reasons. Company risk is subdivided into company position risk and Management risks.

3.21.6 Company position risk:

Within an industry each and every company holds a position. This position is very competitive. Due to the weakness in the company's position in the industry, a company is the risk for failure. That means, company position risk is the risk of failure due to weakness in the companies position in the industry. It is subdivided into performance risk and resilience risk.

3.21.7 Performance risk:

This risk refers to the risk that the company’s position is so weak that it will be unable to repay the loan even under Favor able external condition. Performance risk assessed by SWOT(Strength, Weakness, Opportunity and Threat) analysis, Trend analysis, Cash flow forecast analysis and credit report analysis (i.e. CIB repot from Bangladesh Bank).

3.21.8 Resilience risk:

Resilience means to recover early injury, This refers to risk that the company falls due to resilience to unexpected external conditions. The resilience of a company depends on its leverage, liquidity and strength of connection of its owner or directors. The resilience risk is determined by analyzing different financial ratio, flexibility of production process, shareholders willingness to support the company if need arise and political and private affiliation of owners and key personnel.

3.21.9 Management risk:

The management risk refers to the risk that the company fails due to management not exploiting effectively the company’s position. Management risk is subdivided into management competence risk and integrity risk.

3.21.10 Management competence risk:

 This refers to the risk that falls because the management is incompetent. The competence of management depends upon their ability to manage the company's business efficiently and effectively. The assessment of management competence depends on management ability and management team work. Management ability is determined by analyzing the ability of owner or board of the members first and then key personnel for finance and operation. Management team work is determined by analyzing management structure and its strength and weakness.

3.21.11 Management integrity risk:

This refers to the risk that the company fails to repay the loan amount due to lack of management integrity. Management integrity is a combination of honesty and dependability. Management integrity risk is determined by assessing management honesty, which requires evaluating the reliability of information supplied and then management dependability.

3.21.12 Security risk:

 This sort of risk is associated with the realized value of the security, which may not cover the exposure of loan. Exposure means principal plus outstanding interest. The security risk is subdivided into two major heads i.e. security control risk and security cover risk.

3.21.13 Security control risk:

This risk refers to the risk that the bank falls to realize the security because of bank's control over the security offered by the borrower i.e. incomplete documents. The risk of failure to realize the security depends on the difficulty in obtaining favorable judgement and taking possession of security. For analyzing the security control risk the credit office is required to verify documentation to ensure security protection, documentation completeness, documentation integrity and proper insurance policy. He/she also conducts site visit to verify security existence. Assessment of security control risk requires analyzing the possibility of obtaining favorable judgement and analyzing the case with which the bank could take the possession and liquidate the securities.

3.21.14 Security cover risk:

This refers to the risk that the realized value of security is less than exposure. Security cover risk depends on speed of realization and liquidation value. For analyzing security cover risk, the official requires assessing the power of the customer to prolong the legal process and to analyze the market demand for the security For assessment of security control risk, the officials times the time that would require to liquidate the security and assess the risk and estimates the security value at liquidation and assess the risk.

Before completing the LRA form, the relationship manager collects data specially industry specific from published sources and company specific data that not usually published., by personally visiting the company. After collecting the necessary data he/ she prepares financial spreadsheet. This spreadsheet provides a quick method of assessing business trend & efficiency and helps to assess the borrower ability to pay the loan Obligation. Financial spreadsheet includes balance sheet, income statement, cash flow statement and ratios for the purpose of financial statement analysis. Through analyzing data and collected information, the concerned official completes the LRA form and all scores are transferred to the scoring matrix to find the overall risk of lending. The overall matrix provides four kinds of lending risk for decision making viz.  (I) Good (ii) Acceptable (iii) Marginal and (iv) Poor. The bank does not provide any credit request having an over all risk as “ marginal" and " Poor" without justification. All credit application rated "Poor" shall require the approval of the Board of Directors regardless of purpose tenor or amount. Therefore bank can minimize the dangers regarding the bad loan and advances through using the LRA.

4.0 INDUSTRY BEST PRACTICES AS SUGGESTD BY BBK

4.1 POLICY GUIDELINES

This section details fundamental credit risk management policies that are recommended for adoption by all banks in Bangladesh. The guidelines contained herein outline general principles that are designed to govern the implementation of more detailed lending procedures and risk grading systems within individual banks.

4.1.1 Lending Guidelines

All banks should have established Credit Policies (“Lending Guidelines”) that clearly outline the senior management’s view of business development priorities and the terms and conditions that should be adhered to in order for loans to be approved. The Lending Guidelines should be updated at least annually to reflect changes in the economic out look and the evolution of the bank’s loan portfolio, and be distributed to all lending/marketing officers. The Lending Guidelines should be approved by the Managing Director/CEO & Board of Directors of the bank based on the endorsement of the bank’s Head of Credit Risk Management and the Head of Corporate/Commercial Banking. (Section 2.1 of these guidelines refers) Any departure or deviation from the Lending Guidelines should be explicitly identified in credit applications and a justification for approval provided. Approval of loans that do not comply with Lending Guidelines should be restricted to the bank’s Head of Credit or Managing Director/CEO & Board of Directors. The Lending Guidelines should provide the key foundations for account officers/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 that should constitute the majority of the bank’s loan portfolio. For each sector, a clear indication of the bank’s appetite for growth should be indicated (as an example, Textiles: Grow, Cement: Maintain, Construction: Shrink). This will provide necessary direction to the bank’s marketing staff.

Types of Loan Faciliti
The type of loans that are permitted should be clearly indicated, such as Working Capital, Trade Finance, Term Loan, etc.

Single Borrower/Group Limits/Syndication
Details of the bank’s Single Borrower/Group limits should be included as per Bangladesh Bank guidelines. Banks may wish to establish more conservative criteria in this regard. Appendix-3.4.3 provides brief description of financing under syndicated arrangement.

Lending Caps
Banks should establish a specific industry sector exposure cap to avoid over concentration in any one industry sector.

Discouraged Business Types
Banks should outline industries or lending activities that are discouraged. As a minimum, the following should be discouraged:

- Military Equipment/Weapons Finance
- Highly Leveraged Transactions
- Finance of Speculative Investments
- Logging, Mineral Extraction/Mining, or other activity that is
- Ethically or Environmentally Sensitive
- Lending to companies listed on CIB black list or known defaulters
- Counter parties in countries subject to UN sanctions
- Share Lending
- Taking an Equity Stake in Borrowers
- Lending to Holding Companies
- Bridge Loans relying on equity/debt issuance as a source of repayment.

Loan Facility Parameters
Facility parameters (e.g., maximum size, maximum tenor, and covenant and security requirements) should be clearly stated. As a minimum, the following parameters should be adopted:

- Banks should not grant facilities where the bank’s security position is inferior to that of any other financial institution.
- Assets pledged, as security should be properly insured.
- Valuations of property taken as security should be performed prior to loans being granted. A recognized 3rd party professional valuation firm should be appointed to conduct valuations.

Cross Border Risk
Risk associated with cross border lending. Borrowers of a particular country may be unable or unwilling to fulfill principle and/or interest obligations. Distinguished from ordinary credit risk because the difficulty arises from a political event, such as suspension of external payments
- Synonymous with political & sovereign risk
- Third world debt crisis
For example, export documents negotiated for countries like Nigeria.

4.1.2 Credit Assessment & Risk Grading

4.1.2.1 Credit Assessment

A thorough credit and risk assessment should be conducted prior to the granting of loans, and at least annually thereafter for all facilities. The results of this assessment should be presented in a Credit Application that originates from the relationship manager/account officer (“RM”), and is approved by Credit Risk Management (CRM). The RM should be the owner of the customer relationship, and must be held responsible to ensure the accuracy of the entire credit application submitted for approval. RMs must be familiar with the bank’s Lending Guidelines and should conduct due diligence on new borrowers, principals, and guarantors. It is essential that RMs know their customers and conduct due diligence on new borrowers, principals, and guarantors to ensure such parties are in fact who they represent themselves to be. All banks 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 and include, as a minimum, the following details:

- Amount and type of loan(s) proposed.
- Purpose of loans.
- Loan Structure (Tenor, Covenants, Repayment Schedule, Interest)
- Security Arrangements

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 of management depth, complicated ownership structures or intergroup transactions should be addressed, and risks mitigated. - Industry Analysis. The key risk factors of the borrower’s industry should be assessed. Any issues regarding the borrower’s position in the industry, overall industry concerns or competitive forces should be addressed and the strengths and weaknesses of the borrower relative to its competition should be identified.

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

- Historical Financial Analysis. An analysis of a minimum of 3 years historical financial statements of the borrower should be presented. Where reliance is placed on a corporate guarantor, guarantor financial statements should also be analysed. The analysis should address the quality and sustainability of earnings, cash flow and the strength of the borrower’s balance sheet. Specifically, cash flow, leverage and profitability must be analyzed.

- Projected Financial Performance. Where term facilities (tenor > 1 year) are being proposed, a projection of the borrower’s future financial performance should be provided, indicating an analysis of the sufficiency of cash flow to service debt repayments. Loans should not be granted if projected cash flow is insufficient to repay debts.

- Account Conduct. For existing borrowers, the historic performance in meeting repayment obligations (trade payments, cheques, interest and principal payments, etc) should be assessed.

- Adherence to Lending Guidelines. Credit Applications should clearly state whether or not the proposed application is in compliance with the bank’s Lending Guidelines. The Bank’s Head of Credit or Managing Director/CEO should approve Credit Applications that do not adhere to the bank’s Lending Guidelines.

- Mitigating Factors. Mitigating factors for risks identified in the credit assessment should be identified. Possible risks include, but are not limited to: margin sustainability and/or volatility, high debt load (leverage/gearing), overstocking or debtor issues; rapid growth, acquisition or expansion; new business line/product expansion; management changes or succession issues; customer or supplier concentrations; and lack of transparency or industry issues.

- Loan Structure. The amounts and tenors of financing proposed should be justified based on the projected repayment ability and loan purpose. Excessive tenor or amount relative to business needs increases the risk of fund diversion and may adversely impact the borrower’s repayment ability.

- Security. A current valuation of collateral should be obtained and the quality and priority of security being proposed should be assessed. Loans should not be granted based solely on security. Adequacy and the extent of the insurance coverage should be assessed.

- Name Lending. Credit proposals should not be unduly influenced by an over reliance on the sponsoring principal’s reputation, reported independent means, or their perceived willingness to inject funds into various business enterprises in case of need. These situations should be discouraged and treated with great caution. Rather, credit proposals and the granting of loans should be based on sound fundamentals, supported by a thorough financial and risk analysis.

Appendix iv contains a template for credit application.

4.1.2.2 Risk Grading

All Banks should adopt a credit risk grading system. The system should define the risk profile of borrower’s to ensure that account management, structure and pricing are commensurate with the risk involved. Risk grading is a key measurement of a Bank’s asset quality, and as such, it is essential that grading is a robust process. All facilities should be assigned a risk grade. Where deterioration in risk is noted, the Risk Grade assigned to a borrower and its facilities should be immediately changed. Borrower Risk Grades should be clearly stated on Credit Applications. The following Risk Grade Matrix is provided as an example.
The more conservative risk grade (higher) should be applied if there is a difference between the personal judgement and the Risk Grade Scorecard results. It is recognized that the banks may have more or less Risk Grades, however, monitoring standards and account management must be appropriate given the assigned Risk Grade:

Risk Rating Grade Definition

Superior – Low Risk (Grade 1) Facilities are fully secured by cash deposits, government bonds or a counter guarantee from a top tier international bank. All security documentation should be in place.
Good – Satisfactory Risk (Grade2) The repayment capacity of the borrower is strong. The borrower should have excellent liquidity and low leverage. The company should demonstrate consistently strong earnings and cash flow and have an unblemished track record. All security documentation should be in place. Aggregate Score of 95 or greater based on the Risk Grade Scorecard.

Acceptable – Fair Risk (Grade3) Adequate financial condition though may not be able to sustain any major or continued setbacks. These borrowers are not as strong as Grade 2 borrowers, but should still demonstrate consistent earnings, cash flow and have a good track record. A borrower should not be graded better than 3 if realistic audited financial statements are not received. These assets would normally be secured by acceptable collateral (1st charge over stocks / debtors / equipment / property). Borrowers should have adequate liquidity, cash flow and earnings. An Aggregate Score of 75-94 based on the Risk Grade Scorecard.

Marginal - Watch list (Grade 4) Grade 4 assets warrant greater attention due to conditions affecting the borrower, the industry or the economic environment. These borrowers have an above average risk due to strained liquidity, higher than normal leverage, thin cash flow and/or inconsistent earnings. Facilities should be downgraded to 4 if the borrower incurs a loss, loan payments routinely fall past due, account conduct is poor, or other untoward factors are present. An Aggregate Score of 65-74 based on the Risk Grade Scorecard.

Special Mention (Grade 5) Grade 5 assets have potential weaknesses that deserve management’s close attention. If left uncorrected, these weaknesses may result in a deterioration of the repayment prospects of the borrower. Facilities should be downgraded to 5 if sustained deterioration in financial condition is noted (consecutive losses, negative net worth, excessive leverage), if loan payments remain past due for 30-60 days, or if a significant petition or claim is lodged against the borrower. Full repayment of facilities is still expected and interest can still be taken into profits. An Aggregate Score of 55-64 based on the Risk Grade Scorecard.

Substandard (Grade 6) financial condition is weak and capacity or inclination to repay is in doubt. These weaknesses jeopardize the full settlement of loans. Loans should be downgraded to 6 if loan payments remain past due for 60-90 days, if the customer intends to create a lender group for debt restructuring purposes, the operation has ceased trading or any indication suggesting the winding up or closure of the borrower is discovered. Not yet considered non-performing as the correction of the deficiencies may result in an improved condition, and interest can still be taken into profits. An Aggregate Score of 45-54 based on the Risk Grade Scorecard.

Doubtful and Bad (non-performing) Grade 7 full repayment of principal and interest is unlikely and the possibility of loss is extremely high. However, due to specifically identifiable pending factors, such as litigation, liquidation procedures or capital injection, the asset is not yet classified as Loss. Assets should be downgraded to 7 if loan payments remain past due in excess of 90 days, and interest income should be taken into suspense (non-accrual). Loan loss provisions must be raised against the estimated unrealizable amount of all facilities. The adequacy of provisions must be reviewed at least quarterly on all non-performing loans, and the bank should pursue legal options to enforce security to obtain repayment or negotiate an appropriate loan rescheduling. In all cases, the requirements of Bangladesh Bank in CIB reporting, loan rescheduling and provisioning must be followed. An Aggregate Score of 35-44 based on the Risk Grade Scorecard

Loss (non-performing) Grade 8  Assets graded 8 are long outstanding with no progress in obtaining repayment (in excess of 180 days past due) or in the late stages of wind up/liquidation. The prospect of recovery is poor and legal options have been pursued. The proceeds expected from the liquidation or realization of security may be awaited. The continuance of the loan as a bankable asset is not warranted, and the anticipated loss should have been provided for. This classification reflects that it is not practical or desirable to defer writing off this basically worthless asset even though partial recovery may be effected in the future. Bangladesh Bank guidelines for timely write off of bad loans must be adhered to. An Aggregate Score of 35 or less based on the Risk Grade Scorecard

At least top twenty-five clients/obligors of the Bank may preferably be rated by an outside credit rating agency.

The Early Alert Process should be completed in a timely manner by the 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 ensure the correct facility/borrower Risk Grades are updated on the system. The downgrading of an account should be done immediately when adverse information is noted, and should not be postponed until the annual review process.

4.1.3 Approval Authority

The authority to sanction/approve loans must be clearly delegated to senior credit executives by the Managing Director/CEO & Board based on the executive’s knowledge and experience. Approval authority should be delegated to individual executives and not to committees to ensure accountability in the approval process. The following guidelines should apply in the approval/sanctioning of loans:

Credit approval authority must be delegated in writing from the MD/CEO & Board (as appropriate), acknowledged by recipients, and records of all delegation 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.

The role of Credit Committee may be restricted to only review of proposals i.e. recommendations or review of bank’s loan portfolios.

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. The “pooling” or combining of authority limits should not be permitted.

Credit approval should be centralised within the CRM function. Regional credit centres may be established, however, all large loans must be approved by the Head of Credit and Risk Management or Managing Director/CEO/Board or delegated Head Office credit executive.

The aggregate exposure to any borrower or borrowing group must be used to determine the approval authority required.

Any credit proposal that does not comply with Lending Guidelines, regardless of amount, should be referred to Head Office for Approval

MD/Head of Credit Risk Management must approve and monitor any cross border exposure risk.

Any breaches of lending authority should be reported to MD/CEO, Head of Internal Control, and Head of CRM.

It is essential that executives charged with approving loans have the relevant training and experience to carry out their responsibilities effectively. As a minimum, approving executives should have:

- At least 5 years experience working in corporate/commercial banking as a relationship manager or account executive.
- 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:

o Introduction of accrual accounting.
o Industry / Business Risk Analysis
o Borrowing Causes
o Financial reporting and full disclosure
o Financial Statement Analysis
o The Asset Conversion/Trade Cycle
o Cash Flow Analysis
o Projections
o Loan Structure and Documentation
o Loan Management.

•A monthly summary of all new facilities approved, renewed, enhanced, and a list of proposals declined stating reasons thereof should be reported by CRM to the CEO/MD.

4.1.4 Segregation of Duties

Banks should aim to segregate the following lending functions:

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

The purpose of the segregation is to improve the knowledge levels and expertise in each department, to impose controls over the disbursement of authorized loan facilities and obtain an objective and independent judgment of credit proposals.

4.1.5 Internal Audit

Banks should have a segregated internal audit/control department charged with conducting audits of all departments. Audits should be carried out annually, and should ensure compliance with regulatory guidelines, internal procedures, Lending Guidelines and Bangladesh Bank requirements.

The appropriate organizational structure must be in place to support the adoption of the policies detailed in Section 1 of these guidelines. The key feature is the segregation of the Marketing/Relationship Management function from Approval / Risk Management / Administration functions. Credit approval should be centralized within the CRM function. Regional credit centers may be established, however, all applications must be approved by the Head of Credit and Risk Management or Managing Director /CEO /Board or delegated Head Office credit executive.

4.2.1 Preferred Organizational Structure

The following chart represents the preferred management structure:

4.2.2 Key Responsibilities

The key responsibilities of the above functions are as follows.

Credit Risk Management (CRM)

Oversight of the bank’s credit policies, procedures and controls relating to all credit risks arising from corporate/commercial/institutional banking, personal banking, & treasury operations.

Oversight of the bank’s asset quality.

Directly manage all Substandard, Doubtful & Bad and Loss accounts to maximize recovery and ensure that appropriate and timely loan loss provisions have been made.

To approve (or decline), within delegated authority, Credit Applications recommended by RM. Where aggregate borrower exposure is in excess of approval limits, to provide recommendation to MD/CEO for approval.

To provide advice/assistance regarding all credit matters to line management/ RMs.

To ensure that lending executives have adequate experience and/or training in order to carry out job duties effectively.

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 bank.

To control loan 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 borrower’s compliance with covenants and agreed terms and conditions, and general monitoring of account conduct/performance.

Relationship Management/Marketing (RM)

To act as the primary bank contact with borrowers.

To maintain thorough knowledge of borrower’s business and industry through regular contact, factory/warehouse inspections, etc. RMs should proactively monitor the financial performance and account conduct of borrowers.

To be responsible for the timely and accurate submission of Credit Applications for new proposals and annual reviews, taking into account the credit assessment requirements outlined in Section 4. 1.2.1 of these guidelines.

To highlight any deterioration in borrower’s financial standing and amend the borrower’s Risk Grade in a timely manner. Changes in Risk Grades should be advised to and approved by CRM.

To seek assistance/advice at the earliest from CRM regarding the structuring of facilities, 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, bank policies and Bangladesh Bank directives. Reports directly to MD/CEO or Audit committee of the Board.

This section outlines of the main procedures that are needed to ensure compliance with the policies contained in Section 1.0 of these guidelines.

4.3.1 Approval Process

The approval process must reinforce the segregation of Relationship Management/ Marketing from the approving authority. The responsibility for preparing the Credit Application should rest with the RM within the corporate/commercial banking department. Credit Applications should be recommended for approval by the RM team and forwarded to the approval team within CRM and approved by individual executives. Banks may wish to establish various thresholds, above which, the recommendation of the Head of Corporate/Commercial Banking is required prior to onward recommendation to CRM for approval. In addition, banks may wish to establish regional credit centres within the approval team to handle routine approvals. Executives in head office CRM should approve all large loans.

The recommending or approving executives should take responsibility for and be held accountable for their recommendations or approval. Delegation of approval limits should be such that all proposals where the facilities are up to 15% of the bank’s capital should be approved at the CRM level, facilities up to 25% of capital should be approved by CEO/MD, with proposals in excess of 25% of capital to be approved by the EC/Board only after recommendation of CRM, Corporate Banking and MD/CEO.

The following diagram illustrates the preferred approval process:

Credit Application

                            Recommended by RM/ Marketing

Zonal Credit Officer (ZCO)

Head of Credit &

                            Head of Corporate Banking (HOBC)

Managing Director

Executive Committee/ Board

1. Application forwarded to Zonal Office for approved/decline

2. Advise the decision as per delegated authority (approved /decline) to recommending branches. A monthly summary of ZCO approvals should be sent to HOC and HOCB to report the previous months approvals sanctioned at the Zonal Offices. The HOC should review 10% of ZCO approvals to ensure adherence to Lending Guidelines and Bank policies.

3. ZCO supports & forwarded to Head of Corporate Banking (HOCB) or delegate for endorsement, and Head of Credit (HOC) for approval or onward recommendation.

4. HOC advises the decision as per delegated authority to ZCO

5. HOC & HOCB supports & forwarded to Managing Director

6. Managing Director advises the decision as per delegated authority to HOC & HOCB.

7. Managing Director presents the proposal to EC/Board

8. EC/Board advises the decision to HOC & HOCB

** Regardless of the delegated authority HOC to advise the decision (approval/decline) to marketing department through ZCO

Recommended Delegated Approval Authority Levels

HOC/CRM Executives      Up to 15% of Capital
Managing Director/CEO    Up to 25% of Capital
EC/Board all exceed          25% of Capital

Appeal Process
Any declined credit may be re-presented to the next higher authority for reassessment/approval. However, there should be no appeal process beyond the Managing Director.

4.3.2 Credit Administration

The Credit Administration function is critical in ensuring that proper documentation and approvals are in place prior to the disbursement of loan facilities. For this reason, it is essential that the functions of Credit Administration be strictly segregated from Relationship Management/Marketing in order to avoid the possibility of controls being compromised or issues not being highlighted at the appropriate level. Credit Administration procedures should be in place to ensure the following:

4.3.2.1 Disbursement:

Security documents are prepared in accordance with approval terms and are legally enforceable. Standard loan facility documentation that has been reviewed by legal counsel should be used in all cases. Exceptions should be referred to legal counsel for advice based on authorization from an appropriate executive in CRM.

Disbursements under loan facilities are only be made when all security documentation is in place. CIB report should reflect/include the name of all the lenders with facility, limit & outstanding. All formalities regarding large loans & loans to Directors should be guided by Bangladesh Bank circulars & related section of Banking Companies Act. All Credit Approval terms have been met.

4.3.2.2 Custodial Duties:

Loan disbursements and the preparation and storage of security documents should be centralized in the regional credit centers.

Appropriate insurance coverage is maintained (and renewed on a timely basis) on assets pledged as collateral.

Security documentation is held under strict control, preferably in locked fireproof storage.

4.3.2.3 Compliance Requirements:

All required Bangladesh Bank returns are submitted in the correct format in a timely manner.

Bangladesh Bank circulars/regulations are maintained centrally, and advised to all relevant departments to ensure compliance.

All third party service providers (valuers, lawyers, insurers, CPAs etc.) are approved and performance reviewed on an annual basis. Banks are referred to Bangladesh Bank circular outlining approved external audit firms that are acceptable.

4.3.3 Credit Monitoring

To minimise credit losses, monitoring procedures and systems should be in place that provide an early indication of the deteriorating financial health of a borrower. At a minimum, systems should be in place to report the following exceptions to relevant executives in CRM and RM team:

Past due principal or interest payments, past due trade bills, account excesses, and breach of loan covenants;

Loan terms and conditions are monitored, financial statements are received on a regular basis, and any covenant breaches or exceptions are referred to CRM and the RM team for timely follow-up.

Timely corrective action is taken to address findings of any internal, external or regulator inspection/audit.

All borrower relationships/loan facilities are reviewed and approved through the submission of a Credit Application at least annually.

Computer systems must be able to produce the above information for central/head office as well as local review. Where automated systems are not available, a manual process should have the capability to produce accurate exception reports. Exceptions should be followed up on and corrective action taken in a timely manner before the account deteriorates further. Refer to the Early Alert Process (section4.3.3.1).

4.3.3.1 Early Alert process:

An Early Alert Account is one that has risks or potential weaknesses of a material nature requiring monitoring, supervision, or close attention by management. If these weaknesses are left uncorrected, they may result in deterioration of the repayment prospects for the asset or in the Bank’s credit position at some future date with a likely prospect of being downgraded to CG 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 be undertaken on a continuous basis. An Early Alert report should be completed by the RM and sent to the approving authority in CRM for any account that is showing signs of deterioration within seven days from the identification of weaknesses. The Risk Grade should be updated as soon as possible and no delay should be taken in referring problem accounts to the CRM department for assistance in recovery.

Despite a prudent credit approval process, loans 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 Bank’s interest. The symptoms of early alert are by no means exhaustive and hence, if there  are other concerns, such as a breach of loan covenants or adverse market rumors that warrant additional caution, an Early Alert report should be raised.

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

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

4.3.4 Credit Recovery

The Recovery Unit (RU) of CRM should directly manage accounts with sustained deterioration (a Risk Rating of Sub Standard (6) or worse). Banks may wish to transfer EXIT accounts graded 4-5 to the RU for efficient exit based on recommendation of CRM and Corporate Banking. Whenever an account is handed over from Relationship Management to RU, a Handover /Downgrade Checklist should be completed.

The RU’s 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 loans (NPLs) must be a dynamic process, and the associated strategy together with the adequacy of provisions must be regularly reviewed. A process should be established to share the lessons learned from the experience of credit losses in order to update the lending guidelines.

4.3.4.1 NPL Account Management

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

4.3.4.2 Account Transfer Procedures

Within 7 days of an account being downgraded to substandard (grade 6), a Request for Action (RFA) and a handover /downgrade checklist 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 should review all documentation, meet the customer, and prepare a Classified Loan Review  Report (CLR) within 15 days of the transfer. The CLR should be  approved by the Head of Credit, and copied to the Head of Corporate Banking and to the Branch/office where the loan was originally sanctioned. This initial CLR should highlight any documentation issues, loan structuring weaknesses, proposed workout strategy, and should seek approval for any loan loss provisions that are necessary.

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

Facilities are withdrawn or repayment is demanded as appropriate. Any drawings or advances should be restricted, and only approved after careful scrutiny and approval from appropriate executives within CRM.

CIB reporting is updated according to Bangladesh Bank guidelines and the borrower’s Risk Grade is changed as appropriate.

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

Loans are only rescheduled in conjunction with the Large Loan Rescheduling guidelines of Bangladesh Bank. Any rescheduling should be based on projected future cash flows, and should be strictly monitored.

Prompt legal action is taken if the borrower is uncooperative.

4.3.4.3 Non Performing Loan (NPL) Monitoring

On a quarterly basis, a Classified Loan Review (CLR) should be prepared by the RU Account Manager to update the status of the action/recovery plan, review and assess the adequacy of provisions, and modify the bank’s strategy as appropriate. The Head of Credit sho uld approve the CLR for NPLs up to 15% of the banks capital, with MD/CEO approval needed for NPLs in excess of 15%. The CLR’s for NPLs above 25% of capital should be approved by the MD/CEO, with a copy received by the Board.

4.3.4.4 NPL provisioning and Write Off

The guidelines established by Bangladesh Bank for CIB reporting, provisioning and write off of bad and doubtful debts, and suspension of interest should be followed in all cases. These requirements are the minimum, and Banks are encouraged to adopt more stringent provisioning/write off policies. Regardless of the length of time a loan is past due, provisions should be raised against the actual and expected losses at the time they are estimated. The approval to take provisions, write offs, or release of provisions/upgrade of an account should be restricted to the Head of Credit or MD/CEO based on recommendation from the Recovery Unit. The Request for Action (RFA) or CLR 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 accounts grade 6 or worse. Force Sale Value is generally the amount that is expected to be realized through the liquidation of collateral held as security or through the available operating cash flows of the business, net of any realization costs. Any shortfall of the Force Sale Value compared to total loan outstandings should be fully provided for once an account is downgraded to grade 7. Where the customer in not cooperative, no value should be assigned to the operating cash flow in determining Force Sale Value.  Force Sale Value and provisioning levels should be updated as and when new  information is obtained, but as a minimum, on a quarterly basis in the CLR.

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

1.  Gross Outstanding                                                            XXX
2.   Less:  (i)  Cash margin held or Fixed
        Deposits /SP under lien.                                              ( XXX )
  (ii) Interest in Suspense Account                                        ( XXX )
3.   Loan Value
(For which provision is to be created before considering
estimated realizable value of other security/collateral held)      XXX
4.  Less: Estimated salvage value of security/collateral held   ( XXX )
(See Note below)
Net Loan Value                                                                     XXX

Note: The amount of required provision may, in some circumstances, be reduced by an estimated 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 bank, pledged readily marketable securities etc). Hence, in these situations, it will be advisable to evaluate such collateral, estimate the most realistic sale value under duress and net-off the value against the outstanding before determining the Net Loan value for provision purposes. Conservative approach should be taken to arrive at provision requirement and Bangladesh Bank guideline to be properly followed.

4.3.4.5 Incentive Program:

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

Recovery as a % of Principal plus interest	Recommended Incentive as % of net 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%

5.0 COMPLIANCE OF BBK GUIDELINES BY DHAKA BANK LIMITED

In the previous sections of this report we have critically analysed Dhaka Bank’s existing credit risk management system as well as Bangladesh Bank’s best practices guidelines for managing credit risk. Comparing Dhaka Bank’s current credit risk management system with the BBK best practices guideline we see that Dhaka Bank lacks some of the best practices in banking industry which can be generated in the following way-

5.1Credit Policies/ Lending Guideline: In the above analysis we have seen that Dhaka Bank limited has no written credit policy though it follows some policy.  As there is no written credit policy, branch managers sometimes get confused whether to go with a project or not.

Thus Dhaka Bank limited should have a lending guideline available in every branches so that credit officers can take quick decision whether to accept or reject a project. The lending guideline should include the following-

• Industry or business segment focus.
• Types of loan facilities
• Details of single borrower/ group limit
• Lending caps
• Discouraged business type
• Loan facility Parameters
• Cross Border risk

5.2 Credit Assessment & Risk Grading: Though credit is properly assessed in DBL, but there is no risk grading system applied here. It should adopt a credit risk grading system to ensure account management, structure and pricing are commensurate with the risk involved.

5.3 Approval Authority: In Bangladesh Bank’s guideline it is written that “Approval authority should be delegated to individual executives and not to committees to ensure accountability in approval process”. But in Dhaka Bank limited we see that every credit goes to the board via credit committee. As a result, wastage of time occurs and no one is held accountable for a bad loan.

5.4 Segregation of Duties: According to Bangladesh Bank Guideline Banks should aim to segregate the following lending functions to improve the knowledge levels and expertise in each department:

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

But in Dhaka Bank limited there is no such depertmentation or segregation of duties. In small branches of DBL only single loan officer do all the jobs like loan marketing, risk assessing and credit administration.

5.5 Internal Audit: Dhaka Bank limited has a segregated internal audit/ control department charged with conducting audit of all departments as suggested by Bangladesh bank guideline.

5.6 Preferred Organizational Structure: Currently Dhaka Bank does not follow the preferred management structure as suggested by BBk guideline. The key feature in the preferred management structure is the segregation of Marketing/ Relationship function from approval/Risk management/ Administration function.

5.7 Approval process: According to BBk best practice guideline, ‘the recommending or approving executives should take responsibility for and be held accountable for their recommendations and approval’. The recommended delegated approval authority levels are as follows

 Head of Credit/CRM Executives    up to 15% of capital
 Managing Director/ CEO               Up to 25% of capital
 EC/ Board                                     All exceed 25% of capital

But in Dhaka Bank we see that every credit proposal goes to Executive committee i.e. board.

5.8 Credit Administration: The BBk guidelines suggest that Credit administration be strictly segregated from relationship management/ marketing. As a result the possibility of controls being compromised or issues not being highlighted at the appropriate level can be avoided. The credit administration has the following functions-

• Disbursement
• Custodial duties
• Compliance requirement

In Dhaka Bank credit officers under supervision of Branch Credit In-charge or Manager also carry out all the three functions of credit administration. But Credit Marketing and administration is yet to be segregated.

5.9 Credit Monitoring: To minimize credit losses, monitoring procedures and systems should be in place that provides an early indication of the deteriorating financial health of a borrower. Early identification, prompt reporting and proactive management of Early Alert Accounts are prime credit responsibilities of all relationship Managers. An early Alert Account is one that has risks or potential weakness of a material nature requiring monitoring, supervision or close attention by management.

In Dhaka Bank credit monitoring is also done by credit In charge or branch managers. As a result Early Alert Accounts do not get that much attention as needed.

5.10 Credit Recovery: According to BBk guideline the recovery unit (RU) of CRM should directly manage accounts with sustained deterioration. On a quarterly basis, a Classified Loan review (CLR) should be prepared by the RU Account Manager to update the action/ recovery plan, review and assess the adequacy of provisions, and modify as appropriate.

In Dhaka Bank the non-performing loan is very low (below 3%) and the recovery unit is yet to be formed. But for personal loan program, Personal Banking Division has a recovery unit.

5.11 Incentive Program: The BBk guideline also encourages Banks to introduce incentive programs for the Recovery Unit Account Managers to bring down the NON Performing Loans (NPLs)
Dhaka Bank Limited currently has no incentive program as it does not have any Recovery Unit.

06 CONCLUSION AND RECOMMENDATION

A banker can not sleep well with bad debts in his portfolio. The failure of commercial banks occurs mainly due to bad loans, which occurs due to inefficient management of the loans and advances portfolio. Therefore any banks must be extremely cautious about its lending portfolio and credit policy. So far Dhaka Bank Limited has been able to manage its credit portfolio skillfully and kept the classified loan at a very lower rate ---thanks goes to the standard and stringent credit appraisal policy and practices of the bank.

But all things around us are changing at an accelerating rate. Today is not like yesterday and tomorrow will be different from today. Given the fast changing, dynamic global economy and the increasing pressure of globalization, liberalization, consolidation and disintermediation, it is essential that Dhaka bank limited has a robust credit risk management policies and procedures that are sensitive to these changes. To improve the risk management culture further, Dhaka bank limited should adopt some of the industry best practices that are not practiced currently. These are

 Dhaka Ban should have a clear written lending guideline. The lending guideline should include Industry and Business Segment Focus, Types of loan facilities, Single Borrower and group limit, Lending caps, Discouraged Business Types, Loan Facility Parameters and Cross boarder Risk.

 It should adopt a credit grading system All facilities should be assigned a risk grade. And the borrowers risk grades should be clearly stated on credit application.

 Approval authority should be delegated to individual executives rather than Executive Committee/ Board to ensure accountability. This system will not only ensure accountability of individual executives but also expedite the approval process.

 All lending functions should be segregated in the following way

* Credit Approval / Risk Management
* Relationship Management / Marketing
* Credit Administration

The segregation of duties will improve the knowledge levels and expertise in each department.

 The organization structure should have to be changed to put in place the segregation of the Marketing/ Relationship Management function from Approval / Risk Management / Administration function.

 The responsibilities of the key persons of the above function must also be clearly specified.

 An Early Alert Account system should be introduced to have adequate monitoring, supervision or  close attention by management.( An early Alert Account is one that has risk and potential weaknesses of a material nature)

 There should be a Recovery Unit to manage directly accounts with sustained deterioration. To encourage Recovery Unit incentive program may also introduced.