Credit Risk Management of United Commercial Bank Ltd

Credit Risk Management of United Commercial B

CHAPTER # 1

Introduction

ORIGIN OF THE REPORT

Internship program means systematic gathering, recording and analyzing of data about the subject that a student foes to learn through the program. This program is a partial requirement to obtain the BBA certificate. I was assigned to conduct my internship in the UCBL for the period of 3 months commencing from August 1, 2010 to Octobar 31, 2010 as an intern.

My Internship topic was “Credit Risk Management of UCBL” which was assigned by my internship supervisor Md. Kaleem  Mohammed khan. I have completed this report on the basis of my practical experience of working in United Commercial Bank Limited, Donia Branch.

Statement of the Problem

The specific problems that would be answered by this particular study are the following

• What types of risk a bank faced?
• What does it mean by credit risk?
• What is the overall process that is followed by UCBL to manage the credit risk?
• What are general credit principles that are used to reduce the risk?
• What is the process of credit risk assessment?

 Scope and Delimitation of the Study

The present study was not out of limitations. But as an intern it was a great opportunity for me to know the banking activities of Bangladesh specially U.C.B.L. Some constraints are appended below:

• The main constraint of the study is inadequate access to information, which has hampered the scope of analysis required for the study.

• Due to time limitations many of the aspects could not be discussed in the present report.
• Every organization has their own secrecy that is not revealed to others. While collecting data i.e. interviewing the employees, they did not disclose much information for the sake of the confidentiality of the organization.
• Since the bank personals were very busy, they could provide me very little time.
• Another problem is that creates a lot of confusions regarding verification of data. In some cases more than one person were interviewed to clarify each concept as many of the bankers failed to provide clear-cut idea about the job they perform.

Objectives of the Study:

The broad and specific objectives of the study are listed below:

Broad Objective

The broad objective of the study is to learn and analyze the credit risk management of UCBL and the system the followed for credit assessment.

Specific Objectives

• To know about the United Commercial Bank Ltd.
• To gather information about credit risk and its management process.
• Analyze the credit assessment process.
• To know the risk acceptance criteria.
• To know the credit risk management systems, tools & techniques use in UCBL.
• To find out a common standard of credit risk management systems.

 METHODOLOGY OF THE REPORT

Methods of data collection

The report was fully exploratory in nature. Data have been collected from both primary and secondary sources.

 Primary sources of data

• Face to face conversation with the bank officers & staffs

• Different manuals of U.C.B.L

• Different circulars of U.C.B.L

Secondary sources of data

• Annual report of U.C.B.L

• Prospectus of U.C.B.L

• Different papers of U.C.B.L

• Unpublished data

• Different Text Books

                               CHAPTER # 2

                           OVERVIEW OF UCBL

 Introduction:

United commercial Bank Ltd. is one of the leading private commercial bank in Bangladesh. It   Sponsored by some dynamic and reported entrepreneurs and eminent industrialists of the country and also participated by the eminent. UCBL started its operation in the mid 1983. It renders banking services to its customers. With an outstanding lance, the company is heading towards the new millennium though focusing on leadership, service innovations and all other is required for earning excellence and continued growth. This is offering service-keeping harmony with the changing demands customers and is getting customer satisfaction by assuring quality and by delivery better service value comparing with its competitors.

The emergence of UCBL in private sector is an important event in the arena of Bangladesh. It has been able to establish the network of 99 (another one is on going) branches throughout the country. A team of highly qualified   and experienced   professionals   headed   by  the Managing  Director of the Bank who has vast banking experience bank and at the top there is an efficient Board of Directors for making policies.

With its firm commitment to the economic development of the country, the Bank has already made a distinct mark in the realm of Private Sector Banking through personalized service, innovative practices, dynamic approach and efficient Management. The Bank, aiming to play a leading role in the economic activities of the country, is firmly engaged in the development of trade, commerce and industry thorough a creative credit policy. UCBL currently works with 329 correspondents covering 102 countries. Moreover, the Bank has arrangement with a number of Exchange House at Singapore, U.A.E, Oman, Qatar, and Kuwait to facilitate remittances form expatriate Bangladeshis. UCBL offers various types of products and services include Western Union money transfer, SMS banking, and online services, debit card, credit card, dual currency VISA credit card, various deposit schemes etc.

Mission and Vision of UCBL

UCBL has certain Vision relative to its competitors of UCBL visualizes as:

• Maximizing shareholders wealth.
• Setting industry benchmarks of world class standard in delivering   customer   value   through   our   comprehensive product range, customer service and alt our activities.
• To participate in growth and expansion of our national economy.
• Maintaining the highest ethical standards and a community responsibility worthy of a leading corporate citizen.
• Building an exciting team-based working environment that will attract, develop and retain employees of exceptional ability who help celebrate the success of our business, of our customers and national development.
• Continuously improving productivity and profitability, and thereby enhancing stakeholder’s value.

 UCBL is banking and financial service group, aim to be outstanding financial institution providing a broad range of services to the full range of customers and differentiated from its competitors by the quality and efficiency in service.

 Strategies, Goals & Objectives of UCBL:

Strategy is a course of action taken by the management available to him in advance. Business sense, it refers to the formulation of basic organizational missions, purposes, & objectives; policies & program strategies to achieve them, & the methods needed to assure that lies are implemented to attain organizational ends.

 Strategies of UCBL

• Ø Utilize all available resources to develop various plan, policies and procedures in each of the objectives and goal areas.
• Ø Synchronized and steady growth of the bank.
• Ø Implement plans, polices and procedures.
• Ø Utilize team of professional employees.
• Ø Search for a total customized solution of IT. For the purpose of full automation step.

 Goals of UCBL

• Develop a plan for offering better customer service.
• Foster a realistic deposit mobilization plan.
• Develop appropriate lending risk assessment system.
• Enhance capital plan.
• Generate a system to make good advances.
• Invent appropriate   management   structure,    system, procedures and approaches.
• Cultivate scientific MIS to monitor banks activities.

Business Objectives UCBL

Objective may be defined as a specific desired result to be achieved.

The objectives of UCBL have outlined hereunder:

• Ensure full recovery of all advances.
• Ensure a satisfied work force.
• Make sound loan and investment
• Build up a low cost fund base.
• Meet capital adequacy requirement at all the time.
• Focus on fee based income.
• Install a scientific MIS to monitor banks activities.
• Adopt an appropriate management technology.

 Organism of UCBL

  Board of directors of UCBL

The Bank has in its Management a combination of highly skilled and eminent bankers of the country of varied experience and expertise successfully led by Mr. M. Shahjahan Bhuiyan, a dynamic banker, as its Managing Director and well educated young, energetic and dedicated officers working with missionary zeal for the growth and progress of the institution. The board of directors of united Commercial Bank is following below:

 Corporate Information

Name of the Company                         United Commercial Bank Limited

Legal Status                                           Public Limited Company

Date of Incorporation                          June 26,1983

Date of Commencement                       June 27,1983

Registered Office                                  CWS(A)-1,Gulshan Avenue 

                                                        Dhaka 1212,Bangladesh

Telephone                                        PABX 02 885 2500

E-Mail                                             info@ucbl.com

Website                                            www.ucbl.com

S.W.I.F.T                                                      UCBLBDDH

Listing with Dhaka Stock Exchange        November 30,1986

Listen with Chittagong Stock Exchange  November 15,1995

Chairman                                              Md. Jahangir Alam khan 

Managing Director                               M. Shahjahan Bhuian      

Company Secretary                              Mirza Mahamud Rafiqur Rahaman   

Products & Service Offer by UCBL

Financial Position of UCBL

The Bank

The Bank closed the year with satisfactory performance in every sector. At the end of the year 2009, total assets of the bank stood at Tk.90,484 million against Tk.64,795 million of 2008 registering an increase of 39.65 percent.

Total assets included Tk. 7,004 million cash in hand, balances with Bangladesh Bank and Sonali Bank against Tk.4,746 million in the previous year. Total liquid assets including investment stood at Tk.22,669 million during the year against Tk.16,325 million in the previous year. The liquid assets was 29.16 percent of the total deposits as at the close of the year. Net return on equity during the year 2009 was 16.35 percent as against 17.44 percent in the previous year.

Capital and reserves

During the year under report authorized capital of the bank remained unchanged at TK 1000 million and the paid-up capital stood at TK 299  million. The reserve fund of the bank increased by 16.33 percent to TK 2,197  million against TK 1,889 million in the previous year of 2008. The reserves for the last five years (2005 to 2009) are as below (taka in million):

Deposit

The deposit of the bank registered an increase of 42.66 percent in the year under review. At the close of 2009, Total deposit stood at TK 77,730 million as against TK 54,485 million in the previous year. The Deposit mix comprised Tk.12400 million as demand and Tk.65330 million as time deposit.Out of the total deposits,Tk.68,455 million was mobilized from the private sector while the balance Tk. 9,275 million from the public sector. Deposits of last five years (2005 to2009) are shown below:

 Credit

The bank continued its participation in different credit programs for financing new industrial projects, working capital, trade finance, international trade etc. Consequently total credit rose to TK 61,692 million in 2009 from Tk. 44,446 million of 2008. The credit deposit ratio stood at 79.37 percent. Sector wise net advances during the year were as follows:-

Loans and advance of last five years (2005 to 2009) are given below:

Investment

At the close of 2009, total investment of the bank stood at TK 9,346 million against TK 7,201 million in 2008.dividend amounting to Tk. 8 million has been received from different companies/ institutions against investment in share during the year under report.

Foreign Trade

During the year 2009,the volume of import business was Tk.58,857 million compared to  Tk.60,009 million in 2008. On the other hand the volume of export business in 2009 was tk. 38,519 million compared to tk. 36,500 million in 2008.

Income, Expenditure & Operating Profit

UCBL earned a total operating income of Tk. 9540 million during the year against Tk. 7850 million in the previous year. The total operating expenditure was Tk. 6415 million in 2009 against Tk. 5400 million in 2008. Thus operating profit stood at Tk. 3125 million in 2009 against Tk. 2450 million of 2008 registered a growth of 27.56 percent.

 From above financial statistics it can be said that the bank is doing well day by day.

CHAPTER # 3

Credit Risk Management of U C B L &   Analysis of the Data

 Risk

Risk may be defined in terms of the variability of possible outcomes from a given investment. If the outcome is certain and there is no variability-hence no risk. Another way we can measure risk like a measure of uncertainty about the outcome from a given event. The greater the variability of possible outcomes on both, the high side and the low side, the greater the risk.

 Risk management

Risk Management is a discipline at the core of every financial institution and encompasses all the activities that affect its risk profile. It involves identification, measurement, monitoring and controlling risks to ensure that

a) The individuals who take or manage risks clearly understand it.

b) The bank’s risk exposure is within the limits established by Board of Directors.

c) Risk taking decisions are in line with the bank strategy and objectives set by BOD.

d) The expected payoffs compensate for the risks taken.

e) Risk taking decisions are explicit and clear.

f) Sufficient capital as a buffer is available to take risk

Risk Evaluation/Measurement

Until and unless risks are not assessed and measured it will not be possible to control risks. Further a true assessment of risk gives management a clear view of bank’s standing and helps in deciding future action plan. To adequately capture banks risk exposure, risk measurement should represent aggregate exposure of bank both risk type and business line and encompass short run as well as long run impact on bank. To the maximum possible extent banks should establish systems / models that quantify their risk profile, however, in some risk categories such as operational risk, quantification is quite difficult and complex. Wherever it is not possible to quantify risks, qualitative measures should be adopted to capture those risks. Whilst quantitative measurement systems support effective decision-making, better measurement does not obviate the need for well-informed, qualitative judgment. Consequently the importance of staff having relevant knowledge and expertise cannot be undermined.

 Risk Management Process:

UCBL always try to manage above risk by various steps like risk analysis, evaluation, acceptance and management of some risk or combination of risks. Risk management is emphasized not only for regulatory purpose but also to improve operational and financial performance of the Bank. The objective of the risk management is that the Bank takes well calculative business risks while safeguarding the Bank’s capital, its financial resources and profitability from various risks.

In order to streamline risk control features in a more effective manner, UCBL has put in places all manuals as suggested in the core risk management guide lines of Bangladesh Bank. Its Standard Operating Procedure (SOP) contains all the guidelines and also includes some of the internationally accepted best practices.

To manage the risk, united commercial Bank Limited takes some steps. They actively involve analysis, evaluation, acceptance and management of some risk. Risk management is not only for regular process but also improve financial performance of the Bank.

 UCBL manage their bank’s risk by taking following steps:

 The Risk management policy of the Bank operates under some broad principles:

• Oversight by the Board /Executive Committee. Board approves policies and processes of risk management recommended by the management and Executive Committee approves the credit proposals submitted by the management;
• Audit Committee of the Board reviews the internal audit reports of the Bank and risk management covering credit risk, operational risk including money laundering risk, market risk and liquidity risk;
• Dedicated independent risk management units viz. Credit Risk Management units, Credit Administration Unit, Credit Monitoring and Recovery Unit, Internal Control and Compliance Unit are responsible for implementation of the risk policies and monitoring of compliance with risk policies. They are also responsible for identification of and measuring risks.
• Dedicated committee at management level has been set up to monitor risk viz. credit risk through Credit Review Committee/and Risk Management Division, Operational Risk through Management Committee and Internal Control and Compliance Division, Market and Liquidity risk through Asset Liability Committee (ALCO); Information risk through MRS Committee and Reputation risk arising out of money laundering through Chief Compliance Officer of the Bank and Compliance Officers of the branches;

• In order to streamline risk control features in a more effective manner, UCBL has put in places all manuals as suggested in the core risk management guide lines of Bangladesh Bank. Its Standard Operating Procedure (SOP) contains all the guide lines and also includes some of the internationally accepted best practices. Departments including corporate banking, SME banking, retail banking, credit card, foreign exchange, treasury, human resources and financial administration. The SOPs include all processes related to the initiation, maintenance, settlement/closure and recording for the entire range of products offered by the Bank. SOPs will help the bank maintain control over its operations, clarify the links with the IT system, act as an effective communication tool that will reduce training time, improve risk management and work consistency.

Board and senior Management oversight:

UCBL’s board of director and senior management must concern following things to reduce risk.

a) To be effective, the concern and tone for risk management must start at the top. While the overall responsibility of risk management rests with the BOD, it is the duty of senior management to transform strategic direction set by board in the shape of policies and procedures and to institute an effective hierarchy to execute and implement those policies. To ensure that the policies are consistent with the risk tolerances of shareholders the same should be approved from board.

b) The formulation of policies relating to risk management only would not solve the purpose unless these are clear and communicated down the line. Senior management has to ensure that these policies are embedded in the culture of organization. Risk tolerances relating to quantifiable risks are generally communicated as limits or sub-limits to those who accept risks on behalf of organization. However not all risks are quantifiable. Qualitative risk measures could be communicated as guidelines and inferred from management business decisions.

c) To ensure that risk taking remains within limits set by senior management/BOD, any material exception to the risk management policies and tolerances should be reported to the senior management/board who in turn must trigger appropriate corrective measures. These exceptions also serve as an input to judge the appropriateness of systems and procedures relating to risk management.

d) To keep these policies in line with significant changes in internal and external environment, BOD is expected to review these policies and make appropriate changes as and when deemed necessary. While a major change in internal or external factor may require frequent review, in absence of any uneven circumstances it is expected that BOD re-evaluate these policies every year.

 Management of Core Risks in Bank

Risks involved in different operational area are under control of the management. UCBL has taken appropriate measures to enforce and follow all approved risk manuals/ guidelines covering the following risk area in order to control and minimize the business as well as financial risks at an acceptable level.

1. Policy Guidelines on Asset Liability Management
2. Policy Guidelines on Credit Risk Management
3. Policy Guidelines on Foreign Exchange Risk Management
4. Policy Guidelines on Money Laundering Prevention
5. Policy Guidelines on Internal Control and Compliance.

UCBL has formed a Management Committee to review proper implementation and regular monitoring of core areas of Risk Management.

Credit risk

Credit risk is one of the major risks faced by the Bank. This can be described as potential loss arising from the failure of a counter party to perform according to contractual arrangement with the Bank. The failure may arise due to unwillingness of the counter party or decline in economic condition etc. The risk of loss of principal or loss of a financial reward stemming from a borrower’s failure to repay a loan or otherwise meet a contractual obligation. Credit risk arises whenever a borrower is expecting to use future cash flows to pay a current debt. Investors are compensated for assuming credit risk by way of interest payments from the borrower or issuer of a debt obligation to repay. The higher the perceived credit risk, the higher the rate of interest that banks will demand for lending their capital. Credit risks are calculated based on the borrowers’ overall ability. This calculation includes the borrowers’ collateral assets, revenue-generating ability etc. Credit risk emanates from a bank’s on and off balance sheet dealings with an individual, firm, company, corporate entity, bank, financial institution or a sovereign. Credit risk may take the following forms:

• In the case of direct lending: principal and/or interest may not be repaid;
• In the case of guarantees or letters of credit: funds may not be forthcoming from the constituents upon crystallization of the liability;
• In the case of treasury operations: the payment or series of payments due from the counter parties under the respective contracts may not be forthcoming or cease;
• In the case of security trading business: funds/securities settlement may not be effected;
• In the case of cross border exposure: the availability and free transfer of foreign currency funds may either cease or restrictions may be imposed by the sovereign.

Principles to Reduce Credit Risk

UCBL follow some principles to reduce their credit risk. These principles set by board of director and senior management. Every branch follows these principles in a very proper way. These principles are:

Repayment Capacity

Credit facilities will be extended to those customers who can make best use of them thus helping maximize Bank’s profit as well as economic growth of the country. To ensure achievement of this objective the Bank bases its lending decision mainly on the borrower’s ability to repay.

 Compliance

All credit extension must comply with the requirements of Bank’s Memorandum and Articles of Association, Banking Companies Act, 1991 as amended from time to time, Bangladesh Bank’s instruction circulars, guidelines and other applicable laws, rules and regulations, Bank’s Credit Risk Management Policy, Credit Operational Manual and all relevant circulars in force. The officer originating a credit proposal shall specifically declare that it complies with all above mentioned rules, regulations, policy etc. Credit officer have to check that all of the information is properly verified. And mentioned document is in the given to the Bank is correct.

 Loan-Deposit Ratio

Loans and advance are financed from customer deposits some time from capital fund of the Bank. United Commercial Bank Limited financed the loan less then their deposits. Another thing is that bank does not finance their loan from short term money market or out of temporary fund.

Deviation

Any deviation from the internal policy of the Bank must be justified and well documented. Specially, all credit assessment form shall invariably include the deviations from the policy, if any. However, no external regulations shall be compromised.

 Return

Credit operation of the Bank should contribute at optimum level within the defined risk limitation. In other words, credit facilities should be extended in such a manner that each deal becomes a profitable one so that Bank can achieve growth target and superior return on capital. Besides, credit extension shall focus on the development and enhancement of customer’s relationship and shall be measured on the basis of the total yield for each relationship with a customer.

 Credit Quality

Credit facilities shall be allowed in a manner so that credit expansion goes on ensuring optimum asset quality i.e. Bank’s standard of excellence shall not be compromised. Credit facilities will be extended to customers who will complement such standards.

 Diversification

The portfolio shall always be well diversified with respect to sector, industry, geographical region, maturity, size, economic purpose etc. Concentration of credit shall be carefully avoided to minimize risk.

 Proper Staffing

Proper credit assessment is complex and requires high level of numerical as well as analytical ability of the concerned officer. To ensure effective understanding of the concept and thus to make the overall credit portfolio of the Bank healthy, proper staffing shall be made through placement of qualified officials having appropriate background, right aptitude, formal training in credit risk management, familiarization with Bank’s credit culture and required experience as well.

 Name Lending

No credit facility shall be allowed simply considering the name and fame of the key person or corporate image of the borrowing company. The Bank shall carefully avoid name lending. Credit facility shall be allowed absolutely on business consideration after conducting due diligence. In all cases, viability of business, credit requirement, security offered, cash flow and risk level will be meticulously analyzed.

Single Customer Exposure Limit

UCBL will always comply with the prevailing banking regulation regarding “Single Customer Exposure Limit” set by Bangladesh Bank from time to time. As per prevailing regulation, Bank will take maximum exposure (outstanding at point of time) on a single customer (Individual, Enterprise, Company, Corporate, Organization, Group) for the amount not exceeding 35 percent of Bank’s total capital subject to condition that the maximum outstanding against funded facilities does not exceed 15 percent of the total capital. However, for single customer of the export sector maximum exposure limit shall be 50 percent of the total capital subject to the condition. Total funded facility shall not exceed 15 percent of the total Capital of the Bank at any point of time.

Security

Security taken against facilities shall be properly valued and affected in accordance with the laws of the country. When any loan taker was unable to repay the loan then can recover the loan by realizing the security.

Large Loan

Credit facility to a single customer (Individual, Enterprise, Company, Corporate, Organization, and Group) shall be treated as Large Loan if total outstanding amount against the limit at a particular point of time equals or exceeds 10 percent of the total capital of the Bank. UCBL’s total Large Loan Portfolio exposure shall not exceed 56 percent of the total outstanding loans and advances at any point of time.

 Credit in different sectors:

UCBL continued its Participation in different credit programmes for financing new industrial projects, working capital, trade finance, international trade etc. Consequently total credit rose to Tk. 20211 million in 2005 from Tk. 15385 million of 2004. The credit deposit ratio stood at 0.82:1. Sector wise credits during the year 2005 were as follows:

 Above information explain below by graph:

Credit Risk Assessment

Risk assessment or analysis is all about understanding the risk associated with lending money. Until and unless risks are not assessed and measured it will not be possible to control risks. The primary factor determining the quality of the Bank’s credit portfolio is the ability of each borrower to honor, on timely basis, all credit commitments made to the Bank. This must be accurately determined by the authorized Credit Officers/ Executives prior to approval. Therefore a thorough credit risk assessment shall be conducted prior to the sanction of any credit facilities. While assessing a credit proposal total emphasis shall be given on repayment potential of loans out of funds generated from borrower’s business (cash flow) instead of realization potential of underlying securities. 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 which should be adhered to at all times. Credit Applications should summaries the 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 Loan(s)
• Results of Financial analysis
• 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 analyzed. 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 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. The Bank must assess the critical risks of facilities given / to be given and ways / factors of mitigation of those risks. Some of the critical factors are:

• Volatility
• High debt
• Overstocking
• Rapid growth
• Acquisition
• Debtors issues
• Succession

 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.

 Credit Assessment System:

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 credit officer fail to analyze the clients viability of repaying the loan and the projects cash flow possibility of default may arise due to the information. In sanctioning the loan, is the key to identify the borrowers’ ability, expertise, efficiency, and industry analysis, business performance to ensure the recovery of the credit along with the good supervision, monitoring and the relationship. 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.

 Allocation of Authority:

To assure proper and orderly conduct of the banking operation, the board of directors empowered the Managing Directors and executives of the bank to lend up-to certain under certain terms and conditions at their discretion. Important point is that an officer will not be delegated certain power on the basis of his position. In other words, an officer does not automatically get lending authority by virtue of his corporate /functional title. Specified lending authority will be delegated by the Managing Director to various Executives after taking into consideration his proven credit judgment, Knowledge, and experience.

 Approving Authority:

UCBL credit proposal go through certain steps that are ordered in terms of hierarchy. The board of directors is the ultimate authority and it delegates different power to the different committees. In UCBL there are following hierarchies in approving credit facilities.

Branch Credit Committee

The branch credit department is maintained by the branch manager and the other members are second man or manager operation, credit in-charge, and other members are nominated by the branch manager and the credit officer who prepares the proposal calls them relation officer. As the ultimate performance of the branch depends on the loan all of the members are give importance. If the credit amount wanted is not under the sanctioning authority of the branch committee, it is sent to the Head Office Credit Committee for approval.

Head Office Credit Department

After receiving the loan proposal from different branches, credit committee (HO) seats after certain interval for analyzing the proposal.  The credit officers review the proposal and look for what other information is needed to provide with it to present before the executive committee. Here they also appraise the loan proposal in the same way the branch does. The Head office credit committee is headed by the Managing Directors of the bank and other members are selected by him. Mainly the head office credit department is responsible for the following activities:

• The committee evaluates the quality of the lending staff posted in the branch and take appropriate steps to made them efficient and effective.
• Ensuring that all the required information and documents are collected and are in order.

Executive Department

If the limit of the loan proposal exceeds the authority delegated to the head office credit committee, the loan proposal is forwarded to the executive committee for sanction. Approving the credit facility as delegated by the Board of Directors.

• Supervising implementing the directives of the Board of Directors.
• Reviewing of each extension of the credit approval by the HO credit committee or Managing Director.
• Communicate the result of all the above function to the Board of Directors.

Board of Directors

If the credit demand of the client crosses the delegated power of the executive committee, the proposal is sent to the board of directors for approval. The Board of Directors has, in the UCBL retain the following credit related responsibilities in their hand:

• Delegating authority to approve and review credit
• The board of directors will approve the credit for which authority is not delegated to anybody.
• The board of directors will establish the credit-related, policy and procedures.

 Risk Acceptance Criteria

The Management will review and prepare periodically Risk Acceptance Criteria (RAC) duly approved by the Executive Committee/Board and disseminate to the concerned executives at operational level.  In preparation of RAC the following area would be covered with flexibility for deviations by the competent authority:

a) Maximum amount in each type of facility line

b) Maximum limit to a single obligor and group

c) Acceptable Leverage, Current ratio, Interest coverage, Operating margin for an industry.

d) Geographical location

e) Security & Support

United Commercial Bank will extend credit only to qualified borrowers where the amount and intended purpose are clear and legitimate. Credit facilities shall be allowed in a manner that the expansion in credit does not compromise the asset quality of the Bank.

 Risk Grading

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.

 Significance of Credit Risk Grading

Credit risk grading is an important tool for credit risk management as it helps the Banks & financial institutions to understand various dimensions of risk involved in different credit transactions. The aggregation of such grading across the borrowers, activities and the lines of business can provide better assessment of the quality of credit portfolio of a bank or a branch. The credit risk grading system is vital to take decisions both at the pre-sanction stage as well as post-sanction stage.

• At the pre-sanction stage, credit grading helps the sanctioning authority to decide whether to lend or not to lend, what should be the loan price, what should be the extent of exposure, what should be the appropriate credit facility, what are the various facilities, what are the various risk mitigation tools to put a cap on the risk level.
• At the post-sanction stage, the bank can decide about the depth of the review or renewal, frequency of review, periodicity of the grading, and other precautions to be taken.

Having considered the significance of credit risk grading, it becomes imperative for the banking system to carefully develop a credit risk grading model which meets the objective outlined above.

Credit Risk Grading

Credit Risk Grading is an important tool for credit risk management as it helps a Bank to understand various dimensions of risk involved in different credit transactions. The credit risk grading system is vital to take decisions both at the pre-sanction stage as well as post-sanction stage. At the pre-sanction stage, credit grading helps the sanctioning authority to decide whether to lend or not to lend, what should be the pricing for a particular exposure, what should be the extent of exposure, what should be the appropriate credit facility and the various risk mitigation tools. At the post-sanction stage, the bank can decide about the depth of the review or renewal, frequency of review, periodicity of the grading, and other precautions to be taken. Having considered the significance and necessity of credit risk grading for a Bank, it becomes imperative to develop a credit risk grading model which meets the objective outlined above.

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

  Function of Credit Risk Grading

Well-managed credit risk grading systems promote bank safety and soundness by facilitating informed decision-making. Grading systems measure credit risk and differentiate individual credits and groups of credits by the risk they pose. This allows bank management and examiners to monitor changes and trends in risk levels. The process also allows bank management to manage risk to optimize returns.

Use of Credit Risk Grading

The Credit Risk Grading matrix allows application of uniform standards to credits to ensure a

Common standardized approach to assess the quality of an individual obligor and the credit portfolio as a whole. As evident, the CRG outputs would be relevant for credit selection, wherein either a borrower or a particular exposure/facility is rated. The other decisions would be related to pricing (credit spread) and specific features of the credit facility. Risk grading would also be relevant for surveillance and monitoring, internal MIS and assessing he aggregate risk profile. It is also relevant for portfolio level analysis.

Number and Short Name of Grades Used in the CRG

The CRG scale consists of eight categories with Short names and Numbers are provided as follows:

 UCBL Risk Grading Framework

Effective risk management requires an accurate and forward looking estimation of the probability of default over the next 12 months. It should be noted that Credit Risk Grading is not a replacement of comprehensive credit appraisal. Credit Risk Grading is a dynamic process for measuring credit risk to help the sanctioning authority in taking decisions. All credit proposals whether new or renewal must be supported by Credit Risk Grading. It will encompass the following two things:

 (a) Risk Grading Scorecard and

(b) Risk Grading Sheet.

No proposal will be processed until Risk Grading is completed, submitted for approval and the result is shown in proposal. It is the responsibility of the originating officer to ensure that analysis has been carried out with authentic and reliable information.

 Risk Grading Scorecard

As per instruction of Bangladesh Bank, Risk Grading Score Card has been developed for all exposures of UCBL (irrespective of amount) other than those covered under Consumer and Small Enterprise Financing Prudential Guidelines and also under The Short-Term Agricultural and Micro-Credit. The Score Card will be updated if required. The score of the risk grading scorecard will be weighted one. There are 5 (five) broad head rating components and separate parameters have been set to measure borrower’s position against each component. Score Cards are tools to determine a borrower’s aggregate score based on assessment of quantitative and qualitative factors. Score Cards shall records the Assigned rating through a combination of the Aggregate Score as well as exercise of judgment. Judgment plays an important role in the scoring of qualitative factors as well as recommendations made to change the risk rating in case of disagreement. It should be noted that Industry volatility is a key driver in the Risk Grading as it has been proved that the probability of default is higher in industries with higher volatility. However, since there is no acceptable industry average of key financials and industry volatility factor is absent, the matter has not been included in the present Risk Grading Score Card. A snapshot of Principal Risk components and corresponding Parameters and weight assigned to each Component is as follows:

 The Relationship Officer of the Branch will prepare Risk Grading Scorecard in case of new proposal, renewal and/or enhancement of existing facility, any deterioration in the borrower’s business position, any breach of contract by the borrower or as and when he/she feel it necessary. In addition, aggregate weighted score of the customer is to be affixed in the relevant field of the Credit Assessment Sheet.

A clear definition of the different categories of Credit Risk Grading is given below

After preparation of Risk Grading Scorecard, concerned Relationship Officer will assign risk grade to the customer within the following definition of Credit Risk Grading:

 Superior (SUP)

• Credit facilities, which are fully secured i.e. fully cash covered.
• Credit facilities fully covered by government guarantee.
• Credit facilities fully covered by the guarantee of top tier international bank.

Good (GD)

• Strong repayment capacity of the borrower.
• The borrower has excellent liquidity and low leverage.
• The company demonstrates consistency strong earning and cash flow.
• Borrower has well established, strong market share.
• Very good management skill and expertise.
• All security documentations are in place.
• Credit facilities fully covered by the guarantee of a top tier local bank
• Aggregate score of 85 or greater based on Risk Grade Score sheet.

 Acceptable (ACCPT)

• These borrowers are not strong as good grade borrowers, demonstrate earnings, cash flow and have a good track record.
• Borrowers have adequate liquidity, cash flow and earnings.
• Credit in this grade is secured acceptable collateral (1^st charge over inventory/receivables/equipment/property).
• Acceptable management.
• Acceptable parent/sister company guarantee.
• Aggregate score of 75-84 based on Risk Grade Score sheet.

 Marginal/Watch list (MG/WL)

• This grade warrants 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.
• Weaker business credit and early warning signals of emerging business credit detected.
• The borrower incurs a loss.
• Loan repayment routinely falls past due.
• Account conduct is poor, or other untoward factors are present.
• Credit requires attention.
• Aggregate score of 65-74 based on Risk Grade Score sheet.

 Special Mentioned (SM)

• This grade has potential weakness that deserves management’s close attention. If left uncorrected, this weakness may result in a deterioration of the repayment prospects of the borrower.
• Severe management problems exist.
• Facilities are downgraded to this grade if sustained deterioration in financial condition is noted (consecutive losses, negative net worth, excessive leverage).
• Bangladesh Bank criteria for Special Mentioned (SM) shall apply.
• Aggregate score of 55-64 based on Risk Grade Score sheet.

 Sub Standard (SS)

• Financial condition is weak and capacity or inclination to repay is in doubt.
• These weaknesses jeopardize the full settlement of loans.
• Bangladesh Bank criteria for Sub Standard (SS) shall apply.
• Aggregate score of 45-54 based on Risk Grade Score sheet.

 Doubtful (DF)

• 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 yet is not classified as Bad & Loss.
• Bangladesh Bank criteria for Doubtful Credit shall apply.
• Aggregate score of 35-44 based on Risk Grade Score sheet

Bad and Loss (BL)

• Credit of this grade has long outstanding with no progress in obtaining repayment or on the verge of wind up/ liquidation.
• Prospects of recovery are poor and legal options have been pursued.
• 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 valueless asset even though partial recovery may be affected in the future. Bangladesh Bank guidelines for timely write off of bad loans must be adhered to. Legal procedures/ suit initiated.
• Bangladesh Bank criteria for bad and loss (BL) shall apply.
• Aggregate score of less than 35 based on Risk Grade Score sheet.

 Credit Risk Grading Model:

CHAPTER # 4

 Findings of the Study

  Findings of Study

Based on the previous chapter analysis segments and the brief description of credit risk management system of UCBL following findings are originated:

• Bank income mostly depended on the activities of foreign exchange division and credit division. For this UCBL handle both of department very strongly.
• The rate of interest or product cost set up by the head office. Interest rate has to be within a limit for every bank which is notified by the Bangladesh Bank.
• Sometime risk manager can not find necessary documents and information for credit risk assessment. That’s why risk managers use their assumption on risk management. Data collection checklists are not duly filled by the Relationship Managers.
• Credit quality depends on close follow-up and monitoring of loans. The follow-up and monitoring of loans is not strong here.
• An insurance coverage should obtain for both funded and non funded credit facility. But reality is very few borrowers confirm their insurance coverage. So Banks has no security in case of any uncertainty like fire, strike, riot etc.
• The Banks in Bangladesh has faces a lot of illegal pressure from Political persons, Directors and Management of the Bank for approval of loan. in that cases Risk managers are bound to approve the loan without any assessment and rationality.
• The risk managers have often insufficient time for credit risk management. Huge workload and hurries for loan approval prevent them from through assessment. So, it is very troublesome to manage the risk in a prudent manner for the risk managers.
• Credit allocation is set-up by the Head Office Credit committee. The Head of the Branch can authorize credit up to Tk.20 Lac.
• Some big credit facilities recommended by the Head Office credit Committee which is processed with fast monitoring and screening.
• Quality development may help the bank to hold on the old customers and attract potential customers.

CHAPTER # 5

                            Recommendation    

Recommendation:

• The Credit Policy of the Bank is very complicated. Bank need to make it easy and understandable. So that all credit officer can understand the instruction and follow this instruction correctly at the time of credit risk management..
• To assessment the credit proposal correctly management should recruit sufficient risk manager in credit department.
•  The management must be careful to sanctioning that loan which is recommended by powerful bodies. Because these loans sometimes become more risky.
• To reduce the credit risk the original documents of the client must be verified thoroughly. If manager sanction the loan without the original documents, that may involves more risk.
• To reduce the default risk the repayment capacity of loan of the client should be properly investigated. Otherwise, here have the chance to default.
• The process of sanctioning a loan is very time consuming. Management should give more effort to reduce the time of processing a loan.
•  The main portion of profit comes from the foreign exchange and credit division, but there are not enough employees on these departments to serve the clients. So number of employees should be increased in these departments.
• Management should arrange training in regular basis to develop their employee skill.
• Bank need to develop an industry wise integrated Credit Risk Grading system. So that risk can measure for different industry of business in a correct way.
• Bank has a few numbers of tools and techniques to assessment the credit risk. Bank need to introduce new and advance risk assessment tools and techniques.

                  CHAPTER # 6

                   Conclusion

Conclusion:

As an organization the United Commercial Bank Limited has earned the reputation of top listed banks operating in Bangladesh. The organization is much more structured compared to any other listed bank operating in Bangladesh. It is relentless in pursuit of business innovation and improvement. It has a reputation as a leader in financing manufacturing sector. With a bulk of qualified and experienced human resource, United Commercial Bank Limited can exploit any opportunity in the banking sector. It is pioneer in introducing many new products and services in the banking sector of the country. Moreover, in the retail-banking sector, it is unmatched with any other listed banks because of its wide spread branch networking thought the country. United Commercial Bank Ltd. explores their business day by day. In 2009 to may 2010 it introduce 17 new branches and many of branches is going to open.

UCBL does very good in credit risk management. Bangladesh Bank has introduce a good numbers of circulars, guidelines, tools and techniques for managing the credit risk in a prudent manner as well as to minimize the rate of default/ non-performing loans at a standard level. UCBL always follow these circulars, guidelines and techniques and they have also use some internal policy, guidelines, tools and techniques for better risk management. Despite a prudent credit approval process, loans may still become troubled.

The success of credit risk management has resulted from dedication, commitment, dynamic leadership, effective strategy, planning and decision making, motivating and controlling of bank’s management. In formulating a credit judgment and making quality Credit Decisions, the lending officer must be equipped with all information needed to evaluate a borrower’s character, management competence, capacity, ability to provide collaterals and external conditions which may affect his ability in meeting financial obligations. So, it is obvious that prudent management of these risks is fundamental to the sustainability of a bank.

Bibliography

• Annual Report 2009.
• Credit Risk Grading Manual; Published on March, 2008.
• www.ucbl.com
• Ø  en.wikipedia.org/wiki/Bank
• Foundations of financial management by Stanley B. Block & Geoffrey A. Hirt.
• UCBL’s retail banking service prospectus.
• www.investopedia.com
• Ø  www.bis.org/publ/bcbs54.htm
• Articles published on Credit Department information.
• Credit Risk Management: How to Avoid Lending Disasters and Maximize Earnings By Joetta Colquitt.
• http://www.bangladeshinfo.com/banking01.php
• Credit Risk Measurement: New approaches to Value at Risk and other Paradigms by Anthony Saunde