ASSIGNMENT

ON Credit Risk Management

In the perspective of BangladeshSUBMITTED TOMd. Shahriar Parvez

Course teacherCity University.

SUBMITTED BY

Name ID# Md Sharwar jahan Sagor 06313130 Md Yeasin Mondol 06 Md Mobasher Ahmed 0 DATE: 30th August, 2010ACKNOWLEDGEMENTPreparing such a report has been a thrilling and learning experience for a new research student like me. I would like to express my deep sense of gratitude to all those who are always a source of inspiration for their involvement, unconditional cooperation and support in the successful and timely preparation of this report. At the very beginning I give thanks to Allah who keeps me feet to make this assignment. Then I give thanks to my group members who help me by providing information. And I give my special thanks to my honorable teacher who gives us proper guideline to prepare this assignment. without their encouragement; I could not stand in pride as having done some academic work. I am indebted to all of them.

INTRODUCTIONCredit risk analysis is one of the basic to risk management and control, as it is the risk factor inherent in many bank businesses as the quality of credit is critical to sound banking Loans comprise the most important asset as well as the primary source of earning for the banking financial institutions. On the other hand, this (loan) is also the major source of risk for the bank management. A prudent bank management should always try to make an appropriate balance between its return and risk involved with the loan portfolio. An unregulated banking financial institution might be fraught with unmanageable risks for the purpose of maximizing its potential return. In such a situation, the banking financial institutions might find itself in serious financial distress instead of improving its financial health. Consequently, not only the depositors but also the general shareholders will be deprived of their money from the bank. The deterioration of loan quality will also affect the intermediation efficiency of the financial institutions and thus the economic growth process of the country. This establishes the fact that banks should provide increasing emphasis on various analytical tools and techniques for screening proposals and loan decision taking. Credit Risk Management is one of the new management and operational tools for improving the operational efficiency of nationalized and private sector commercial banks, initiated by Financial Sector Reform Program (FSRP) in 1993. It focus on international changes to the lending process to improve the loan portfolio of banks. FSRP team has designed a new system to assess credit risk called Lending Risk Analysis (LRA) Manual. Bangladesh Bank has made it mandatory for commercial banks to exercise it for large scales loan. Proper credit analysis helped to minimize loan losses by identifying risk/weakness in either prospective or existing loan relationship

Rationale of the Study:

Bangladesh is one of the underdeveloped countries in the world. The economy of the country has a lot left to be desired and there are lots of scopes for massive improvement. In an economy like this, banking sector can play a vital role to improve the overall social-economic condition of the country. The banks by playing the role of an intermediary can mobilize the excess fund of surplus sectors to provide necessary finance, to those sectors, which are needed to promote for the sound development of the economy. As the banks provide finance or lending to its counter parts, there arises a risk of credit risk which is the possibility that a borrower or counter party will fail to meet its obligations in accordance with agreed terms. It was a massive problem for the last two decades when the nationalized banks would give out loan to any client they wanted without thinking of the consequences of getting the loan back or the risk associated with it. As a result, there was a period when about 45% of the total loan of these nationalized banks was Classified Loan. That percentage was reduced to 26% by writing off the BAD/LOSS account. But that doesnt lessen the burden the country has to suffer because by writing off those classified loan, the money is not realized. Even at present, this problem is haunting many banks and poses a major threat towards their sound performing. So its very important to have an effective and sound credit risk management system in place which will help the bank mitigate its risk factors and carry out successful financing service or lending. With that issue in mind, the topic Credit Risk Management CREDIT MANAGEMENT SCENARIO Origin of Credit

Imagine the very first credit transaction in history. It certainly took place hundreds of years ago, before the existence of bank, credit bureaus, or credit departments. Perhaps a farmer asked his neighbor for some seeds to grow a crop promising to give the lender some of his produce. Perhaps a family breadwinner simply needed food for his or family and promised to repay with a bonus to compensate the lender for this generosity.

The prospective lender would have been surprised and apprehensive. An element of trust would be needed, of course, and some guarantee of repayment would be nice. How could one evaluate the risk of making this loan? What compensation should be sought for delivering property for another persons use? How could one collect if repayment was not promptly provided?

If a farmer or businessperson obtains the means to produce employment opportunities and products, certainly the community would benefit. Loans and other credit programs have provided these opportunities throughout history. Financial institutions developed to put funds from savers into the hands of borrowers who used this value to create economic value. Credit has contributed to economic growth of countries throughout the world as it makes goods and services available to consumers, businesspersons, and governments.

Although the basic tasks of evaluating risk, extending credit, and collecting payments have not changed, the mechanisms for marketing and conducting credit programs have changed dramatically over the years. Computers using sophisticated credit scoring systems speed up the disbursement and collection of account balances. Credit bureaus maintain vast database of information about borrowers available online through computer networks. Lenders continue to find more ways to offer more credit options to businesses and consumers. Definition of CreditCredit is a contractual agreement, in which a borrower receives something of value now, with the agreement to repay the lender at some date in the future. One of the basic functions of bank is deposit extraction and credit extension. It helps this kind of organizations to earn around 80% of the total revenue. Managing credit operation, thus, is the crying need for any bank

Importance of credit:

Credit plays a very vital role in national economy in the following ways-

1. It provides working capital for industrialization.

2. It helps to create employment opportunities.

3. Credit controls almost all kinds of production activities of the country.

4. Peoples purchasing power increases for it.

5. It brings social equity.

6. Cash generation occurs for its successful performance.

7. Business cycle can run well only by the help of lending system.

8. Economic Stabilization

9. Raise standard of livingFactors Related with Credit

Risk Time Interest rate Security or Collateral

Operating Expense

Legal Considerations

Inflation

Finance ChargeEMERGENCE OF CREDIT RISK MANAGEMENT Introduction:

Credit Risk Management is basic to risk management and controlling, as it is the major risk factor in most bank business. Therefore, a bank should assess the degree of risk associated with each loan and its profitability. In this connection prior assessment of and follow up on a loan transaction constitute essential ingredients of the credit risk control process. An in-depth analysis of the borrower financial conditions, expected usage of funds, ability to repay, willingness to repay and sources of repayment all together constitute step one in the risk control processes.

Credit Risk Management and its implication in risk analysis:

Credit Risk Management is one of the new management and operational tools for improving the operational efficiency of all banks excepting the foreign banks initiated by Financial Sector Reform Project (FSRP) in 1993. It focuses on internal changes to the lending process to improve the loan portfolio of banks. According to FSRP international consultant, in a successful country (in terms of lending), all applications for credit are thoroughly analyzed to assess the risk that the bank might not fully recover the loan. That is profitable enterprises will get fund and grow but loss making enterprises will be refused funding and will go out of business. Through the better practices of CRM, all the banks will be benefited as well as the economy will grow and the people will be benefited.

The same FSRP international consultant further says, in Bangladesh, loan analysis typically covers only 25% of the potential risks that are analyzed by banks in the developed world (1993). Analysis skills are virtually non-existent in the commercial banks. Most of the lending officers do not know how to analyze a set of accounts. So, the ultimate results of the lending process are- the countrys scarce financial resources are not applied effectively, loss making enterprises receive funding and stay in business and allowing them to loss even more, profitable enterprises are constrained by lack of funding, the tax payers are obliged to subsidies heavily the banking system, Bangladesh remain one of the poorest countries in the world.

In these circumstances, FSRP team has designed a new system to assess lending risk called LRA Manual. Bangladesh Bank has already made it mandatory for commercial banks to exercise it for granting loan above taka 1 chore. But, in near future, Bangladesh Bank may suggest for all kinds of loans.

By going through this manual the lending bankers can assess the credit worthiness of their prospective borrowers. Therefore, LRA is such an instrument, which is definitely and directly related with lending information to analyze the borrowers financial, marketing, managerial and organizational aspects subjectively and objectively and is a part of CRM. It also facilitates the analyst to know the security risk of the credit.

Different types of risks associated with CRMBroad divisions of CRM are as follows:

Business Risk

Business Risk is concerned with whether the borrowing company would fail to generate sufficient cash out of business to repay the loan. Business Risk, the main component of lending risk, consists of the Industry Risk and the Company Risk.

A. Industry Risk: Due to some external reasons a business may fail and the risk, which arrives from external reasons of the business, is called industry risk. It has two components:

1) Supply risk: It indicates the risk of failure of the business due to disruption in the supply of inputs resulting from their price, quantity or quality. The inputs of supply risk are labor, raw materials, machinery and equipment, power, premises etc. The price, quality or quantity of supplies may be disrupted because of the following measures.

Scarcity of supplies causes production loss. Supply scarcity causes due to- labor unrest, erratic power supply, imposition of power controls makes supplies scarce, supply of raw materials disrupted by transport difficulties, critical raw materials only available from one supplier, who goes out of business etc.

2) Sales risk: It is another component of industry risk. When the business fails for disruption in sales, this type of risk would generate. Sales may be disrupted due to changes in market size, increased competition, changes in regulations, losing of a single large customer etc. To assess sales risk at first we have to analyzes industry turnover and compare the same with other two major competitors. Next we have to assess how easy it is for new competitors to enter the industry, then we have to assess the risk that changes to regulations will damage sales and then we have to assess the risk that a single large customer switches to a competitor and finally we will assess the risk involve in sales.

B. Company Risk: Company risk is shown for some internal reasons of the business. It has also two main components and four sub components.

1) Company position risk: Each and every company holds a position within an industry. This position is very much competitive. Due to weakness in the companys position in its industry, a company may fail and the risk of failure is called company position risk. It depends on-

a) Performance risk: If a company fails to perform well enough to repay the loan because of its weakness under given expected external conditions, the company is said to suffer from performance risk. It depends on competitive position, realistic business strategy, cash generating ability etc.

b) Resilience risk: When a company fails due to lack of its resilience to unexpected external conditions, the resilience risk is generated. The resilience risk of a company depends on companys leverage, its liquidity and the strengths of the owner/key personnels connections.

2) Management risk: If the management of a company fails to exploit the companys position effectively, the company can fail to and this risk of failure is called management risk. It can be subdivided further-

a) Management competence risk: Management competence risk is the risk that the company fails because the management is incompetent. It is a part of management risk under company risk. The competence of the managers depends on their ability and level of teamwork. To assess the ability of the managers we have to analyze their education, experience, relevant skill etc.

b) Management integrity risk: Management integrity risk is the risk that the company fails to repay its loan due to lack of management integrity. Management integrity is a combination of honesty and dependability.

Security Risk:Security Risk is the risk that the realized value of the security does not cover the exposure of loan. Exposure means principal plus outstanding interest. Security risk can be divided into two parts. This are-

A. Security control risk: security control risk is the risk that the bank fails to realize the security because of lack of banks control over the security offered by the borrowers. The risk of failing to realize the security depends on the difficulty with which the bank can both obtain a favorable judgment and take possession of security.

B. Security cover risk: security cover risk is the risk that the realized security value may not cover the full exposure of loans. Security cover risk depends on speed of realization and liquidation value.

Current Scenario of CRM Practices in Lending Decisions in Banks

Most of the banks in our country use LRA technique for the loan facilities (both funded and non-funded) of Tk 50 lac and above though prescribed loan amount for mandatory application of LRA stands at Tk 1 chore and above. On verification, it was revealed that almost all the banks use LRA technique as a supplementary tool along with the traditional approach for processing loan proposals. Virtually, LRA helps to magnify the use of traditional approach of credit analysis and no conflict is found to exist between these two approaches because of complementing each other. The reason behind this is that the use of LRA technique is dependent on the findings of the traditional credit analysis. This implies that LRA plays an insignificant role in the credit decision-making process. No banks are using LRA following the systematic order as prescribed in the manual. The areas of non-compliance are, risk adjusted loan pricing methodology, follow-up and monitoring mechanism based on completed LRA, early warning system regarding non-payments, auditing practices to identify documentation and security irregularities etc. It is observed that credit officers are generally tempted to put their option on average risk level out of four risk levels in all risk categories without justification. As a result the ultimate risk level comes to Acceptable rating which goes in favor of the borrower. The banks are not doing any exercise regarding the extent of the loan classification for the loan cases where LRA has been used.

CREDIT RISK MANAGEMENT IN BANGLADESHSource of Fund:

The following are the regular sources of fund:

Deposit received from the customers.

Borrowing.

Shareholders equity.

Recognizing banks highly satisfactory performance in terms of its operational capability and financial health organizations like

Bangladesh Bank.

Asian Development Bank ( ADB).and

Kreditanstalt fur Wiederaufbau ( KWF) of Germany have given long term financial assistance to BASIC for providing loans to industrial and micro enterprise in Bangladesh.Commercial Credit:

Overdraft (OD): It is a continuous advance facility. By this agreement, the banker allows his customer to overdraft his current account up to his credit limits sanctioned by the bank. The interest is charged on the outstanding amount not on the sanctioned amount. OD is of two types practiced in BASIC Bank Limited.

Secured Overdraft (SOD): BASIC sanctions SOD against different securities like FDR, Work Orders etc

Temporary Overdraft (TOD): It is given to the valued customers only. It is not that much secured. Usually it forwards without any security or sometimes exercise lien against the instrument, deposited in the bank. It is given by the branch manager discretionary power.

Cash Credit (CC): By this agreement, a banker allows his customer to borrow money up to a certain limit. CC is a favorite mode of borrowing by traders, industrialists, etc for meeting their working capital requirements. It is operated like overdraft account. Depending on the needs of the business, the borrower can draw on his cash credit account at different time and when he gets money can adjust the liability. BASIC Bank charges interest on the daily outstanding balance of the account.

Loan (General): It is given against personal guarantee, hypothecation of goods and land and building.

Bills Portfolio: Branch purchases demand bills of exchange that are called Draft accompanied by documents of title to goods such as bill of lading, railway receipt, and truck receipt. The purchase of bill of exchange is drawn at an issuance, i.e. for a certain period maturing on a future date and not payable on demand or sight.

Letter of Credit: An undertaking by the bank to make payment to the seller subject to submission of documents drawn in strict compliance with the stipulated terms giving title to goods to the buyer/ bank.

Back to Back Letter of Credit: Letter of credit for importing raw materials/ accessories opened against lien of an export items. Payment is usually settled from export proceeds. A letter of credit is an instrument by which a banker for account of a buyer gives formal evidence to a seller of its willingness to permit him to draw on certain terms and stipulates in legal form that all such bills will be honored.

Export Cash Credit: Advance allowed as ash credit for processing goods for exports. The advance is usually adjusted from export proceeds. The term PC (Packing Credit) is also used for such advance.

Loan Against Imported Merchandise (LIM): Loan allowed against imported merchandise and storing the same in banks custody. The bank through its approved clearing agent clears the merchandise. The advance is adjusted by delivering the goods against payment by the importer.

Local Bill Purchase (LBP): Advance allowed against bills drawn under an inland L/C opened and accepted by a local bank. Such local L/C is usually opened as back to back L/C against export L/C.

Payment against Documents (PAD): The bank that establishes the letter of credit is bound to honor its commitment to pay for import bills when these are presented for payment, if drawn strictly in terms of the letter of credit. In fact, the amount stands as advance to the importer, which is adjusted by delivery of documents against payment or by allowing post import finance such as LIM or LTR.

Foreign Bill Purchase (FBP): Post export credit allowed against export bills. If the bills are drawn as per terms of the L/C, the bank purchases the same and pay equivalent amount of the bill to the credit of the clients account. The advance is adjusted on realization of export proceeds through foreign agent.Procedure for getting approval of a loanThe following procedure is applicable for giving loans to the customer.

How to apply for creditThe investor may contact head office or any of the branch offices of the bank for preliminary discussion on his proposal and the facilities provided by the bank. The proposal will then be examined at the branch or head office of the bank and if the proposal appears to be a viable one and the promoter is found creditworthy and proposed project is acceptable then intending investor will be supplied with a prescribed loan application form. The application form should be submitted in triplicate with the requisite project examination fees, which are not refundable. The borrower will be required to deposit equity in advance (partial) . Project Appraisal

Commercial banks and financial institutions intermediate between lenders and borrowers. The loan and advance should be given to them who has certain and predicted cash flow re-pays the credit. If the credit officer fails to analyze the clients viability of repaying the loan and projects cash flow, possibility of default may arise. In other words, it can be said that the purpose of appraisal is to be sure that the proposed advance will be safe, liquid, profitable and 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.

BASIC bank was established to provide term loan and other financial assistance including all kinds of banking facilities to accelerate the pace of development to small industry. The financial assistance included short term working capital loan, medium term and long term capital finance to viable new small scale industry (SSI) projects and BMRE of SSI projects which will fulfill the banks criteria of viability and acceptability. Project appraisal in the banking sector is needed for the following reasons:

To justify the soundness of an investment

To ensure repayment of bank finance

To achieve organizational goals

The entrepreneurs of small industry concern/ project requiring financial assistance from BASIC Bank need to fulfill the following criteria:

Credit assessmentA 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, and is recommended by Branch Credit Committee (BCC). 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 banks 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 CUSOMTER (KYC) and Money Laundering guidelines which should be adhered to at all times.

Credit Applications should summarize 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 are analyzed:

Borrower analysis

Industry analysis

Supplier/ Buyer analysis

Historical financial analysis

Projected financial performance

Account conduct

Adherence to lending guidelines

Mitigating factors

Loan structure

Security

Head Office Approval

The respective credit officer at ICD appraises the project by preparing a summary named TOP Sheet, Executive Summary and Office Note which contains a brief description of the loan proposal. Then he submits it to the Head Office Credit Committee (HOCC) for the approval of the loan. The Head Office Credit Committee considers the proposal and takes decision whether to approve the project or not.

Sanction Letter

After getting the approval from the head office, the branch issues the sanction letter to the borrower. A sanction letter contains the following particulars amongst other details: name of the borrower, managing partner, nature of facility, amount, expiry, rate of interest, purpose, security and the following terms and conditions:

Before availing the loan all documentation formalities must be completed. Registered power of attorney in favor of BASIC Bank to sell the mortgaged property without the consent of the court or owner of the lender.

DP note and other usual charge documents/ undertakings etc duly stamped must be signed and submitted to the authority before disbursement of loan

The loan shall be governed by all other firms and conditions as per policy and practices of the bank that will be acceptable for the sanction to safe guard the interest of the bank.

The bank reserves the right to amend, modify or withdraw any or all the terms of the loan at any time without assigning any reason whatsoever or to terminate/ call back the loan facility at any time for which bank or its official cannot be held responsible for any loss for such cancellation of the loan.

The borrower receives the letter and returns a copy of this letter duly signed by him/ her as a token of having understood and acceptance of the terms and conditions above.

Disbursement:A proper disbursement procedure is essential for implementing a project small or big, within the estimated time and cost.

However, constant monitoring of the projects on the one hand and timely mobilizing the equity on the other hand cannot be under estimated for efficient implementation of a project. The following factors are taken into account.

After machinery contract is finalized the Bank will open irrevocable letter of credit on behalf of the borrower in the joint names of the Bank and the borrower.

Disbursement of foreign currency loan is made automatically as soon as irrevocable letter of credit for import of machinery is established and the foreign suppliers make shipment of machinery.

The local currency loans are to be made available to the project after satisfactory and full utilization of equity by the borrowers by creating required physical facilities (tangible assets) for the project

The sponsors have to request for release of local currency loan to the Bank supported by papers like progress report, statement of account, documents.

The local current loan of the Bank to be disbursed in one or more installment according to nature of project

The borrower must use the loan for the purpose for which the advance is extended

The borrower shall apply the proceeds of the loan exclusively to finance the cost of the goods and services required to carry out the project. Foreign currency shall be disbursed only for goods and services that have neither been paid for in Bangladeshi currency not were produced in here

If the completion of the project or its successful operation is hindered or delayed because the funds available are inadequate to ensure its completion, it shall be the responsibility of the borrower to make prompt arrangements in accordance with financial plan approved by the bank to provide the necessary funds.

Classification of Loans and Provisions

Types of Loan Length of OverdueStatus of ClassificationRate of Provision

Continuous Loan

(OD/CC, PC, LIM, LTR etc) Overdue period will be accounted from the day following the date of expiry of such loan Less than 6 months

6 months or more but less than 9 months

9 months or more but less than 12 months

More than 12 monthsUnclassified

Sub-Standard

Doubtful

Bad/Loss1%

20%

50%

100%

Demand Loan

(Forced LIM, BLC/ PAD, EBP etc) Overdue period will be accounted the day following the date of expiry of such loan Less than 6 months

6 months or more but less than 9 months

9 months or more but less than 12 months

More than 12 monthsUnclassified

Sub- Standard

Doubtful

Bad/ Loss1%

20%

50%

100%

Term loan payable within 5 years

Overdue period will be accounted from the day following the expiry of the due date of payment of installment of such loan If default amount of installment is equal to installment payable in 6 months

In 12 months

In 18 monthsSub- Standard

Doubtful

Bad/ Loss20%

50%

100%

Term loan payable more than 5 years

Overdue period will be accounted from 6 months following the expiry of the due date of payment of installment of such loan If default amount of installment is equal to installment payable in 12 months

In 18 months

In 24 monthsSub- Standard

Doubtful

Bad/ Loss20%

50%

100%

Stag/ Micro Credit

Overdue period will be accounted from 6 months following the expiry of the due date of payment on installment of such loan Less than 12 months

12 months or more but less than 36 months

36 months or more but less than 60 months

More than 60 monthsUnclassified

Sub- Standard

Doubtful

Bad/ Loss5%

5%

5%

100%

Special Mention Account:Bangladesh Bank recently introduced this account under BRPD Circular No. 02 dated 15th February 2005 in order to strengthen credit discipline and bring classification gradually in line with international standards. This circular makes the following adjustments:

A continuous credit, demand loan or a term loan which will remain overdue for a period of 90 days or more will be put in to special mention account and interest accrued on such loan will be credited to interest suspense account, instead of crediting the same to income account. This will help banks to look at accounts with potential problems in a focused manner and it will capture early warning signals for accounts showing first signs of weakness. Loans in the SPECIAL MENTION ACCOUNT will not be treated as defaulted loan.

Monitoring and Follow-up

Monitoring is tackling the risk aspect of the loan and advance portfolio to be sure that the portfolio is complying with the criteria set down in the credit policy. For analyzing and monitoring the loan portfolio branch manager is the main responsible person.

Factors analyzed in loan monitoring

The following factors are taken into consideration at the time of monitoring the loan and advance.

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

Supervision Procedure

The supervision of projects includes adequate control procedures in the disbursement of loan and the continuous monitoring of project operations during its period of construction and implementation through report requirement as well as plant visits. A project under implementation is visited every month and progress report is submitted to the management. Bank official on project supervision keeps watch over the estimation made and notes the deviation for taking quick remedial measures. An entrepreneur is encouraged to come to the Bank and talk about his project and problems. It is emphasized for taking up comprehensive insurance policy covering the properties of the project. All sorts of papers, reports, received from the borrowers is promptly reviewed/ scanned for some signals that may need special close attention of Bank Management. Branches of the bank are effectively utilized for project supervision including disbursement of local currency loan in their respective areas.

Recovery is the recurring worry for the bank officials. Moreover, recycling of advances is important without which the banks liquidity is in jeopardy. Besides that the community doesnt get benefited unless new advances and new borrowers are encouraged. Strategic supervision of the loan and advance can ensure the timely recovery of the loan and advances along with the interpersonal relationship with the client. Supervision techniques are as follows:1. Loan account statement check to find out:

Whether the limit is within that has been sanctioned

Satisfactory transaction has been made

Whether the borrower has sustained a loss of capital

Significant decrease in the value of security

Weakening of banks position due to any reason

Used of credit other than the purpose for which it was approved

Incorrect information supplied by the borrower or bankruptcy of the borrower

Credit is rescheduled frequently or the rules of rescheduling are violated.

2. Collection of the financial statements of the client and analyzing them and comparing the actual performance with that of projected. If actual is less than projected then the credit officers take the following measures:

Meet the owner and discuss to identify the reason

Analyze the business strategy regarding the price, quality and competitors

Whether the amount disbursed was used properly

No banker wants the loan to be turned into bad; at least they are not bad at the time they are made. However, bank find that invariably a small portion of the loan become delinquent and eventually must be written off. The loan review process is a crucial tool in reducing losses and in monitoring loan quality. It consists of a periodic audit of the ongoing performance of some or all of the active loans in a banks loan portfolio. Other than its basic objective of reducing loan losses, some intermediate objectives of the loan review of BASIC Bank are as follows:

To detect actual or potential bad loans as early as possible

To ensure that the loan policy is followed

To inform management and the board of directors about the overall condition of the loan and advance portfolio

Limitations and Drawbacks in Implementing CRM Techniques:

Traditionally, it has been observed that banks in Bangladesh used to operate funds business i.e. lending activities under security-oriented principle. Before 1989, banks used to give more emphasis to the security without considering the business risk of the borrowers at the time of sanctioning loan. But CRM does not give more emphasis on the security rather it gives more emphasis on the business risk of the borrowers. CRMs unique system of scoring and various analyses give the bankers an opportunity to scrutinize the capable borrowers with due consideration regarding their competence, integrity, repayment capacity and cash flow projection of the project. The criteria specified in the LRA manual are very much appropriate and pragmatic to minimize the risks of lending. But in some cases it becomes very difficult to the bankers because of the following reasons:

a) Inadequate Data: To apply financial data relating to performance of a firm, it is very important to assess its existing or projected strength. In many cases up-to-date and reliable data like production, trade, business raw-materials, total demand and supply of different product of different industries, industry growth, sales turnover, performance data for major competitors are inadequate, which are necessary for assessing risk.

b) Inaccurate data: CRM calls for submission of financial statements by the borrowers. Most of the prospective borrowers are observed not to prepare financial statements. But the lending officer has to depend largely on the Balance Sheet and Income Statement figures. As the business concern of Bangladesh, in most cases they do not maintain proper records of their transactions, so they fail to provide accurate data. Experience shows that even the financial statements submitted by the applicants cannot be relied upon. Inconsistencies are observed in the information provided by applicants. Collection and compilation of these data are very laborious and in many cases problematic. So analysis of performance risk and resilience risk are becoming cumbersome.

c) Unwillingness to disclose information: Generally, competitors do not have the habit of disclosing their business information. They always tend to maintain secrecy for their business interest. But LRA calls for submission of competitors performance.d) Non-cooperation between different banks: LRA techniques require information regarding exposure to other banks. Though credit bureau report has an important role in this regard, the non-cooperation between different banks is a real difficulty.

e) Lack of experienced assessor: In most cases, the value of security actually realized is less than what a bank estimates. Sometimes, security also loses value before it is realized. Due to lack of experienced, qualified and reliable surveyor institutions to assess value of security along with its quality and market demand are very scarce in Bangladesh.f) Lack of skill and knowledge of the personnel: Human resources are the most valuable resources of an organization. The trained and skilled manpower is an important factor for effective and efficient handling of CRM. Preparing CRM requires special skill and knowledge in risk management and knowledge in national and international economy is also required for successful analysis of CRM. But most of the banks are facing the acute problem regarding the skilled and knowledgeable personnel who know the modern tools and techniques of analyzing the financial statements, trend and dynamism of market.g) Insufficient independence: Banks and financial institutions are not apart from any type of political influence or pressure group in respect of loans and advances. Besides, independence of credit analysis/ risk management section at branch level is not fully ensured.h) Economic factors: The various components at the macro and micro level of our national economy are not yet stable enough. As a result, the analysis of demand, supply, sales forecast etc. do not contribute enough to the Lending Risk Analysis (LRA).i) Legal environment: Analysis of security risk often does not become accurate because of lengthy and complicated legal proceedings. However, the law of the country does not make auditing compulsory for all the enterprises except the joint stock company. In such a situation analysis of lending risk on the basis of un-audited financial statements may become useless.

j) Biasness and Irregularities: In the LRA manual the degree of risks of the borrowers are measured subjectively and as such the question of biasness and irregularities of the concerned personnel cannot be avoided. If they do not apply their judgment ethically, the result of LRA may be misleading.

k) Absence of discounting technique: Term loan is sanctioned for longer period of time for meeting the cost of assets of a capital nature for the establishment, renovation, expansion and modernization of industrial units and also for financing permanent current assets. In this method, each years cash inflow is discounted at the required rate of return and these present values are cumulated until they equal or exceed the amount invested. In its simplest terms, this is value today of the money received in future, is not present in this technique, but is very much required for medium and long term loan.

l) Political Pressure: Also at times it is seen that there are many loans which are not sanctioned at the branch level because they are considered too risky or not worthy enough but because of political pressure, they are sanctioned at the Head Office which creates an unnecessary and extra pressure on the Overall financial position of the Bank

Recommendation The awareness that Credit Risk Management is an essential part of modern Commercial Banking should be developed from the top level of the concerned authorities of the Government itself to make the overall Banking Sector more efficient.

More training should be conducted for the bankers to improve their analytical ability and professional standard regarding the use of CRM and other tools and techniques in selecting the borrowers and analyzing the loan proposals. Proper loan classification and provisioning system ensures operational soundness, better asset quality and sound liquidity of the Bank. And it is possible by introducing proper technique to manage the core risk on assets as well as overall operation of the bank.

Proper implementation of Money Loan Court Act-2003 shall help to reduce classified loan and to manage the present loan portfolio in order.

Bangladesh Bank should introduce On-line CIB database system among all FIs & NBFIs that all concerned can get available information regarding loan status of the borrower for taking immediate decision.

All banks and financial institutions should undertake coordinated efforts to urge the Government for taking initiatives to improve the standard of professional services provided by the chartered accountants under the authority of the Institute of Chartered Accountants of Bangladesh (ICAB) in order to facilitate accurate disclosure of facts and figures of the various business entities. Top management of the Bank should assign importance to CRM as a principal tool for credit screening of the loan cases where the application of LRA is mandatory. Further CRM should be effectively used as a monitoring devices or early warning signal system at the post disbursement stage in order to locate the deviations and update the risk status.

For the purpose of realistic assessment of security risk the legal system in terms of realization of security should be reviewed so that the period of realization could be properly estimated.

An effective and efficient loan pricing technique on the basis of cost of Fund should be introduced for sound landing. Also for better n fast assessing the credit worthiness of the client, there can be different types of Credit Risk Assessing Firms set up who will grade or assess the client and give their report to the concerned banks.

Government should take steps to grow awareness to the normal public that people who doesnt repay loan should be treated as enemy of the countries and they should be separated from the society.

There should be different departments for approval process, credit administration, and credit monitoring and credit recovery. By doing so, the degree of biasness should be reduced and more accurate assessing will be doneIf the above mentioned recommendations are followed carefully, the given objectives of the report can be accomplished. The percentage of non performing loan should be reduced and then can slowly divert towards cash flow based lending and also further improve the overall position of the banks. ConclusionCredit Risk Management (CRM) reflects the degree of risk of repayment involved with the borrower. This practice of CRM should be made compulsory for all commercial banks and specialized banks like Bangladesh Shilpa Bank (BSB), Bangladesh Krishi Bank (BKB) and Nationalized Banks also and the special form should be developed for the agricultural lending. Since banks and financial institutions play an important role in the progress of national economy, it is the duty of our bankers to manage their loan portfolio very carefully. Our national economy has been suffering enough for the misuse of banks money in loans and advance and wastage of public assets. This is the high time to manage the public assets effectively and contribute to the nations progress.

CRM

Reliance

Risk

Performance Risk

Management

Competence Risk

Management Integrity Risk

Risk Company

Security Control

Risk

Security Cover

Risk

Business Risk

Security Risk

Industry Risk

Sale Risk

Supply Risk

Management Risk

Company

Position Risk

Sanction Letter

Duly filled-up First Information Sheet (FIS)

Application for Credit Line

Collecting CIB report from BB.

Making Credit Line Proposal

Project Appraisal

Head Office Approval

Documentation

Disbursement

Monitoring and Follow-Up

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