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The Credit Process

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Mae B

on 14 December 2013

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Transcript of The Credit Process

The Credit Process
design by Dóri Sirály for Prezi
Credit Risk - refers to the risk that a borrower will default on any type of debt by failing to make payments which it is obligated to do.
DRIVERS OF THE CREDIT ORGANIZATION
Credit Philosophy
Forming the Credit Culture

• If the credit philosophy is not consistently integrated and reinforced into the credit culture, the credit process will become dysfunctional.
• A lending organizations ‘s culture represents :
• Attitudes
• Perceptions
• Behaviors
• Styles
• Beliefs
“the embodiment of the bank’s approach to underwriting, managing and monitoring credit risk” according to John McKinley and John Barrickman
“credit culture is the glue that binds the credit process and forms the foundation for the credit discipline”

Goal
The Credit Process
THREE TYPES OF CREDIT RISK
:
1.
Credit spread risk
occurring due to volatility in the difference between investments’ interest rates and the risk free return rate.
2.
Default risk
arising when the borrower is not able to make contractual payments.
3.
Downgrade risk
resulting from the downgrades in the risk rating of an issuer.
CREDIT PROCESS
- managing the risks that are contained I providing debt services requires a systematic framework to be established throughout the relevant credit areas.
Unlike Traditional commercial lending, which at one time was predicted on long term relationships, today’s emphasis is on short-term value added customer relationships. This concept of “value-added” has also brought new meaning to commercial lending as customer relationships are defined as either profitable or not profitable. If they are profitable, this must be evidenced by returns that are commensurate with the overall portfolio objectives and for the financial institution’s return on capital.
The survey found that “the larger the company , the greater the pressures were on them to attain commercial credit services from the banks.”
As a consequence, “half of the companies surveyed said they were unable to meet spending requirements without having awarded underwriting or strategic advisory services.”


Two types of Credit Process:

1. Traditional Credit Process
2. Modern Credit Process

Its concept has always been to ensure that adequate capital was available for loan funding and that reserves were provisioned according to the borrower’s credit assessment
Pricing was not analyzed to separately identify all cost components that lenders incurred for the risks of extending credit
Loan defaults occurred, costs were not recovered which served to further depress credit earnings
Loans declined from being a leading product to one of a “loss leader”

Dynamic approach in which all aspects of credit risk are built around an ongoing credit portfolio assessment & measurement process
Found a new way of mitigating risk through loan sales, securitizations or credit derivatives
Banking industry has also become resilient in managing the deteriorating credit quality among corporate borrowers.



Derivatives
- is a tradable financial instrument whose value is based on an underlying index, commodity or currency. 

SGX and PSE Collaborate to Develop Philippines Derivatives Market
MANILA, Philippines - Stock exchanges in the Philippines and Singapore are collaborating to offer a new investment option for the public with the launch of Philippine-linked derivatives products.
SGX and PSE will jointly explore the development and promotion of Philippines futures and options to address the demands of international investors.
PSE President and CEO Mr Hans B. Sicat said, "We are delighted to have SGX as a partner in the building of the Philippines derivatives market. We look forward to leveraging on SGX's experience and network, alongside growing investment interest in the Philippines, to bring the country's capital markets to new heights.

About Singapore Exchange (SGX)
Singapore Exchange (SGX) is the Asian Gateway, connecting investors in search of Asian growth to corporate issuers in search of global capital.
SGX represents the premier access point for managing Asian capital and investment exposure.
SGX offers its clients the world's biggest offshore market for Asian equity futures market, centered on Asia's three largest economies - China, India and Japan.


Supporting Credit Departments

“gatekeepers” for managing credit risk
Decision making and approval functions for credit extension

Functions of Supporting Credit Departments

Assumes credit portfolio management responsibilities
 

CREDIT ADMINISTRATION

A bank internal loan monitoring function for overseeing the credit quality of transactions

Roles of Loan Review and Credit Analysis

Single Credit Administration
Analyzes loans at an annual basis to assess the risk rating of a facility in which it remains the same, is downgraded or is upgraded.
Dual Capacity Function
Monitoring role
Includes in the controlling loans to ensure borrowers are complying with the terms and condition

An Institution’s credit philosophy and credit culture represent the
• Mission
• Objectives
• Lending Strategies
Reflects:
• Processes
• Customs
• Protocols
As a result:
• Cultural Attitudes
• Beliefs
Conservative in:
• Lending practices
• High-quality credit standards

• As the objective in defining a credit philosophy and culture is to reflect what role the lender wants to play in the market: a “top-down” approach must be used and implemented throughout the organization.
• The credit practices and processes must begin with the board of directors and CEO’S input and be communicated throughout the organization by a strong senior management.

• A “top-down” approach in this manner makes the credit philosophy become both formal and informal part in the institution.
• Credit Philosophy should define the desired portfolio composition
• The top-down approach will require this strategy to be implemented within the umbrella of a revised credit philosophy and will require identification as to how this strategy will affect the portfolio composition.
• The credit standards used in evaluation loan requests should also be detailed for each type of loan extended, along with underwriting guidelines for each loan that is approved.

Lender Credit Philosophy and Credit Culture
Lender’ Credit Risk Management Strategy
The Credit Organization
The Credit Department
Risk Management
Eliminated their passive approach to loan management

Commercial lenders did not retain nonperforming assets if those assets failed to provide expected portfolio returns

Credit Portfolio Management techniques

Banks began evaluating loan originations

Primary objective: reduce the bank’s cost of capital & to increase aggregate portfolio

Adopted a new way of eliminating risk through loan sales, securitizations, or credit derivatives

These credit loans are terminated from the lender’s portfolio & could be sold to the third-party investors

The expansion & growth of credit have led to the transfer of risk

Modern credit risk management practices have made banking industries to become more resilient in managing credit quality among borrowers

RISK ASSESSMENT VERSUS
RISK MEASUREMENT
Identify and control risks by determining the borrower’s probability of repaying debt
Assessment of the borrower’s income, balance, and cash flow statements
Secondary repayment source will be available in the event the primary source becomes unavailable
Lender’s analytic and risk measurement tools rather than the borrower’s
Goals: Limit credit risk exposure
Adequate compensation is earned
Mitigate risk exposure
SUBMISSION OF APPLICATION FORM AND MORTGAGE REQUIREMENTS.

Requirments:
• Collateral ( land title)
• Summary plan of lot
• Tax declaration
• Tax Clearance
• ITR/ Income Tax Return


ASSESSMENT OF PROPERTY AND OF LOAN APPLICANT
RELEASE OR DECLINE OF MORTGAGE OR LOAN
Personal Loan Credit Process
an unsecured and non-collateralize consumer loan that is granted to qualified individuals for their personal use.
Product Features:
Travel/Vacation
Tuition Fee/School Expenses
Credit Card Payment
Appliance/Furniture Purchase
Medical Expenses
Bills Payment
Car Accessories/Repair
Home Improvement/Renovation
Documentary Requirements:

Completely filled out Personal Loan application form
Photocopy of any of the following identification cards: Company ID, SSS, GSIS, PRC, Driver's License, Passport or TIN (plastic card type), Firearms License, NBI Clearance, Integrated Bar of the Philippines ID
Photocopy of BIR form
Photocopy of BIR form 1701 or 2317 for self-employed applicants and Auditor's Report and Financial Statement with BIR Stamp
Original copy of the latest credit card billing statement (with the client as the PRINCIPAL cardholder)

Minimum and Maximum Loan amount (it varies)
No collateral needed

Monthly Income
At least PhP15,000 gross monthly income if employed
At least PhP30,000 net monthly income if self-employed

Short processing time (Processing of application will take 3 to 5 banking days.
Release of loan proceeds to the client will take another 2 banking days for pick up and 2 to 4  banking days for the delivery and deposit 
      to account option.) 

To Compute for the Monthly Installment
Principal Loan Amount x Factor Rate = Monthly Installment
Credit Risk Strategy

My CREDIT RISK STRATEGY

How can I control my credit risk?

Credit Philosophy

Credit Risk Strategy

Risk Appetite

Risk Management

The basis for how credit is:

Monitored
Controlled
Responded to

The credit organization



Credit Risk Strategy

Clearly understood by everyone

New Business Opportunities

How is an effective credit risk strategy implemented?

Approval by the Board of Directors

Senior Management

Implementation by the various functions of the entire credit organization

CRS becomes part of the credit process and policies

How can the credit organization reduce mistakes, fraud, and criminal activity?

How can it provide internal controls to sound credit risk assessment?

Answer: segregation of duties

Does the Credit Risk Strategy vary for different lenders?

Yes.


It depends on the lender’s SIZE and LENDING OBJECTIVES

PLEASE NOTE: The credit risk strategy of the lender drives the business composition of the lender’s credit portfolio (or Total Loan Portfolio).

How can I control credit risk?

Consistent credit standards on:
Loan originations
Assessment
Measurement

A consistent risk rating system for:
Product lines
Business segments
Set borrowing limits for each obligor which are based on individual risk ratings and the loan maturity length.

Setting approved lending authority and limits by requiring 2 credit officers to approve each transaction.

Portfolio composition and allocating adequate capital for each loan facility

What else can the lender do to control credit risk?

Please note!

An
unfocused credit culture
might lead to unethical practices.

The primary credit risk components:

Credit Risk Exposure

Transaction Risk

Portfolio Risk

Credit Risk

Operational Risk

Intrinsic Risk

Concentration Risk

Credit
Philosophy

Credit
Risk Strategy

Credit Culture

How a weak credit process can impact the organization and lead to a credit organization’s failure…

Competitive pressures and earnings decline
Weak underwriting standards
Lack of prudent lending practices

Or

Applying inadequate credit processes
Excessive concentration exposure levels

A financial entity’s leadership can affect the effective functioning of the credit process!

How does leadership:

Respond to market challenges?
Direct the institution’s priorities, people, and credit processes?

Let’s have a look at a concrete example….

The case of
Long Term Capital Management (LTCM).

Integrated risks have led to independent risk monitors

Nowadays, most financial institutions have a

Corporate Risk Management (CRM) department or division

The CRM division is responsible for:

Overseeing the integrated risks for the entire institution
Developing, communicating, and implementing the operational processes in order to manage risk

Board of Directors

CEO

Chief Risk Officer

Chief Credit Officer

Chief Operating Officer

Business Units

Senior Management

Board Level

- Monitors Businesses
- Provides Business Analyses

Reports to Board

Corporate Risk Management Group

Conclusion

1. The credit process = systematic operational processes and procedures in order to control credit risk.

2. Credit risk is inherent in the entire process.

3. The nature and sources of risks have to be identified and measured.

4. Modern credit risk management is based on improvements on the traditional credit approach.

5. Nowadays, lenders rely on credit portfolio management to optimize returns and capital allocations.

6. A good credit philosophy, credit risk strategy, and credit culture is very important!

7. Nowadays, Corporate Risk Management oversees everything related to credit risk within the financial institution.
Full transcript