Mba 665 final project-impact of governmental action on a business paper

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Mba 665 final project-impact of governmental action on a business paper

Mba 665 final project-impact of governmental action on a business paper

1.0 Introduction

1.1 INTRODUCTION

The  development  of  financial  market  has  been  receiving  heightened  attention  from the policy-makers in recent years. One explanation lies in the fundamental shift of development strategy reflected in the nearly universal embrace of the private sector as an engine of economic growth. The governments in both developed and developing countries, the international financial institutions which exert tremendous influence on the policy-making apparatus of developing countries and, to a great extent, the intelligentsia have all joined together as ardent advocates of private entrepreneurship.

IDLC Finance Ltd, a leading financial institution of the country achieved significant growth in all areas of business. IDLC began its operation in 1985 as the first leasing company in Bangladesh.  In 1995, IDLC was licensed as a Financial Institution by the country’s central bank and during the last two decades, the company has grown in tandem with the country’s growing economy.

The company’s wide array of products and services range from retail products, such as home and car loans, corporate and SME products including lease and term loans, structured finance services ranging from syndications to capital restructuring and capital market services.

The company also strengthened its presence in the country’s growing stock market with launching a subsidiary-IDLC Securities Limited-which is offering full-fledged brokerage service for retail and institutional clients.

1.2 ORIGIN OF THE STUDY

Since practical orientation is an integral part of the MBA degree requirement, I was deputed by the ASA University to IDLC Finance Limited to take real life exposure of the activities of the organization as a financial institution.

During my study on IDLC Finance Limited I have come across with different functions of the company. From them I have decided to study on the field of Credit Risk Management (CRM) and giving special emphasis on Special Asset Management (SAM).

This study has been originated as the course requirement of the MBA program. I hope the report will give a clear idea about the activities and role of Credit Risk Management in reducing the risk associated with the lease and loan thereby maintaining the IDLC’s interest.

1.3 OBJECTIVES OF THE STUDY

The main objective of the study is to get a definite idea about how CRM plays a vital role in managing the risk associated with each and every product and services of IDLC Finance Limited. Furthermore, the orientation is very useful to detect whether the theoretical knowledge matches with real life scenario or not. Though the title “A Study on the Functions of Credit Risk Management of IDLC Finance Limited” very lengthy area, the specific objectives are as follows:

1. To know the necessity of Credit Risk Management.
2. To learn about the whole CRM procedure.
3. To know the decision making process of CRM.
4. To know the functions of Special Asset Management part of CRM
5. To know about the probable modification can be done in the whole CRM process.

1.4 METHODOLOGY OF THE STUDY

Analysis has been made on the basis of the objectives mentioned before in the context of “A Study on the Functions of Credit Risk Management of IDLC Finance Limited”

The paper will be written on the basis of information collected from primary and secondary sources.

(i)  Primary Data: Discussion with the respective organization’s officials.

(ii) Secondary Data: For the completion of the present study, secondary data has been collected. The main sources of secondary data are:

• Annual Report of IDLC Finance Limited.
• Website of IDLC Finance Limited.
• Data from published reports of SEC, DSE
• Different Books, Journals, Periodicals, News Papers etc.

1.5 LIMITATIONS OF THE STUDY

To make a report various aspects and experiences are needed. But I have faced some barriers for making a complete and perfect report. These barriers or limitations, which hinder my work, are as follows:

• Difficulty in accessing data of its internal operations.
• Non-Availability of some preceding and latest data.
• Some information was withheld to retain the confidentiality of the organization.

I was placed for only around 3 months of time & working like a regular employee hindered the opportunity to put the effort for the study. The time span was not sufficient enough to learn all the activities of the organization properly. Therefore, it was very difficult to carry out the whole analysis.

1.6 STRUCTURE OF THE REPORT

The report has two main parts:

Part One: This is basically introductory part, the objective and scope of the study, limitations, and research methodology has been highlighted. Brief Introduction of IDLC Finance Limited, its product and service, organizational structure, performance, etc. are presented.

Part  Two:  Products  of  NBFIs  for  which  Credit  Risk  Management  has become a key operational tool, how it performs its overall risk analysis and on the basis of the analysis identification of the ways of reducing the risk, thus maintains the core interest of the business. This part also contains the conclusion, reference & appendix of the report.

2.0 The Company

2.1 IDLC FINANCE LI ITED

IDLC Finance Ltd commenced its journey, in 1985, as the first  leasing company of the country  with  multinational  collaboration  and  the  lead  sponsorship  of  the  International Finance Corporation (IFC) of The World Bank Group. Technical assistance was provided by Korean Development Leasing Corporation (KDLC), the largest leasing company of the Republic of South Korea.

The unique institutional shareholding structure comprising mostly of financial institutions helps the company to constantly develop through sharing of experience and professional approach at the highest policy making level.

IDLC offers a diverse array of financial services and solutions to institutional and individual clients to meet their diverse and unique requirements. The product offerings include Lease Finance, Term Finance, Real Estate Finance, Short Term Finance, Corporate Finance, Merchant Banking, Term Deposit Schemes, Debentures and Corporate Advisory Services.

The company has authorized capital of Taka 1,000,000,000 (10,000,000 shares of Taka 100 each) and paid up capital of Taka 250,000,000 (2,500,000 ordinary shares of Taka 100 each). IDLC has also established two wholly owned subsidiaries, IDLC Securities Limited and I, Cons  Limited  to  provide  customers  with  security  brokerage  solutions  and  IT  solutions, respectively.

2.2 SHAREHOLDING STRUCTURE

IDLC was incorporated in the year 1985 as a joint venture public limited company among five foreign and three local financial institutions. Now there are no foreign investors the present Shareholding Structure of IDLC Finance Ltd is given bellow:

SL.NO.	NAME OF SHAREHOLDERS	%
	Sponsors/Directors:
1	The City Bank Ltd.	29.70
2	Sadharan Bima Corporation	7.62
3	IPDC of Bangladesh Ltd.	0.0002
	Sub–Total	37.33
	GENERAL
4	Institutions :
	Mercantile Bank Ltd.	7.50
	Reliance Insurance Co. Ltd.	7.00
	Eskayef Bangladesh Ltd.	8.00
	BD Lamps	1.32
	Transcraft Ltd.	4.01
	Eastern Bank Limited	6.00

	Phonix Finance	1.00
	Partex Beverage	0.86
	Marina Apparels	1.00
	ICB	2.32
	Dhaka Stock Exchange Ltd.	0.95
	One Bank Ltd.	0.85
	Star Particle Board	0.60
	Bangladesh Finance & Invest.	0.88
	Other institutions	6.92
	Sub total	49.21
5	Individuals :
	General Public(Individuals)	13.45
	Mr. A.K.M. Shaheed Reza, Director nominated by Mercantile Bank Ltd.	0.017
	Sub total	13.47
	Total Holdings	100.00

2.3 COMPANY CHRONIC E

May 23,1985	Incorporation of the Company
February 22,1986	Commencement of leasing business
October 1, 1990	Establishment of branch in Chittagong, the main  port city
March 20,1993	Listed in Dhaka Stock Exchange
February 7, 1995	Licensed as a Non- Banking Financial Institutions under the Financial   Institutions Act, 1993
November 25, 1996	Listed on the Chittagong Stock Exchange
May 27, 1997	Commencement of Home Finance and Short Term Finance Operations
January 22, 1998	Licensed  as  a  Merchant  Banker  by  the  Securities  and  Exchange   Commission
January 15, 1999	Commencement   of   Corporate   Finance   and   Merchant   Banking   Operation
January 29, 2004	Opening of Gulshan Branch
November 22, 2004	Launching of Investment Management Services “Cap Invest”
February 7, 2005	Issuance of Securitized Zero Coupon Bonds by IDLC Securitization   Trust 2005
September 18, 2005	Launching  of  Local  Enterprise  Investment  Centre(LEIC),  a  center established for the development of SMEs with the contribution of the

	Canadian   International   Development    Agency   (CIDA)   of   the   Government of Canada
January 2, 2006	Opening of SME focused  branch at Bogra
April 6, 2006	Opening of Branch at Uttara
May18, 2006	Opening Merchant Banking branch in the port city if Chittagong
July 1, 2006	Relocation of Company’s Registered and Corporate Head Office at own  premises at 57, Gulshan Avenue
September 18, 2006	Commencement of operation of IDLC Securities Limited, a wholly owned subsidiary of IDLC
March 14, 2007	Launching    of    Discretionary    Portfolio    Management    Services   “Managed Cap Invest”
August 5, 2007	Company name changed to IDLC Finance Limited, from Industrial   Development Leasing Company of Bangladesh Limited
December 3, 2007	IDLC Securities Limited Chittagong Branch commenced operation
December 18, 2007	IDLC Securities Limited DOHS Dhaka Branch opened.
January 6, 2009	IDLC  Finance  Limited  and  IDLC  Securities  Limited  open  Sylhet branches
August 09, 2009	Opening of IDLC Securities Limited, Gulshan Branch
August 26, 2009	Opening of Gazipur SME Booth
September 09, 2009	Opening of Imamgonj SME Booth
December 2009	Opening of Narayangonj Branch
December 2009	Opening of Savar Branch

2.4 GUIDING PRINCIPLES

IDLC is a multi-product financial institution offering an array of diverse financial services and solutions to institutional and individual clients to meet their diverse and unique requirements. Following are the guiding principles that shape the organizational practice of IDLC

Customer first: IDLC has grown with its customers, who are believed to be the center of all actions.  As the crux of IDLC’s corporate philosophy, customer service gets the highest pr iority.

Innovation: IDLC has continuously introduced new financial products for meeting the needs of the entrepreneurs in a complex & challenging business environment. The concept of innovation is in-built into the working culture.

Professional Knowledge: IDLC is staffed with qualified professionals and innovative minds in the country. Years of operational experience,  large  industrial database and competent workforce have given them unparalleled advantages.

Professional ethics: The professional at IDLC maintain the highest degree of financial and business ethics in all transactions with the clients. Over the last two decades, IDLC have put in bets efforts to meet the expectations of the clients and investors.

One stop solution: Work at IDLC begins with the idea generation, and then goes on into the feasibility  study  followed  by  arrangement  of  financing  to  implement  the  project.  IDLC advises the clients, finance them and even arrange financing for them via different financing modes, namely: lease financing, term loan, bridge loan, syndication, bridge loan, syndication, ordinary shares, preferred shares and debentures.

Vision: Become the best performing and most innovative financial solutions provider in the country

Mission: Create maximum possible value of all the stakeholders by adhering to the highest ethical standards

For the Company: Relentless pursuit of customer satisfaction through delivery of top quality services

For the Shareholders: Maximize shareholders’ wealth through a sustained return on the investment.

For the employees: Provide job satisfaction by making IDLC a center of excellence with opportunity of career development.

For the society: Contribute to the well-being of the society,  in general,  by acting as a responsible corporate citizen.

Goal: Long term maximization of Stakeholders’ value

Corporate Philosophy: Discharge the functions with proper accountability for all actions and results and bind to the highest ethical standards

2.5 ORGANOGRAM

THE  APX  of  the  organization n  is  the  board  o f  d i rectors ,  with  the  management   committee   and   managing director   in  the   following   tires.    The board consists of the following directors:

• Chairman from Reliance Insurance Ltd
• Five Directors nominated by The City Bank Limited
• One from Sadharan Bima Corporation (SBC)
• One from Transcom Group
• One from Mercantile Bank Limited
• One Independent Director from Monowar Associates

AC T IV IT I ES OF T H E B OAR D

The Board appoints the Executive Committee (EC), which takes day-to-day decisions on behalf of the company. Every credit proposal has to be approved by the EC for sanction and disbursement.  EC  is  also  authorized  to  observe  and  review  other  major  day-to-day operational functions including corporate plans, budgets and borrowing activities. The composition of the EC is as follows:

a)  Four Directors

b)  Managing Director / Chief Executive Officer and

The Company Secretary shall be the Secretary of the Committee

ACTIVITIES OF THE MANAGING DIRECTOR

The  Managing  Director  (MD),  appointed  by  Board,  manages  the  overall  organizational activities and also plays the role of the figurehead.

ACTIVITIES OF THE DEPUTY MANAGING DIRECTOR

The DMD establishes the company’s policies and reviews the operational performance of the company including approval of large credit proposals, major fund procurements, budget and planning and diversification decisions.

Diagram: Organogram of IDLC Finance Limited

2.6 PRODUCTS AND SERVICES

To ensure steady and long term growth as well as to sharpen its competitive edge in a changing and challenging business environment, IDLC always endeavors to diversify into other financial services which have long term prospects. In 1997, it expanded its range of services by introducing Housing Finance and Short Term Finance, which have broadened its customer base and have contributed significantly to IDLC’s growth and profitability. In early1999, after getting license of Merchant Banking from Securities and Exchange Commission, IDLC started its operation of underwriting, issue management, corporate financing and other investment banking related services. The products and services are as follows:

1. LEASING

Assets are leased to clients on predetermined rental basis for a fixed term with a purchase option at the end.

• TERM LOAN

The customers are offered loan facilities for a determined term at a negotiated rate.

• EQUITY FINANCING

IDLC  invests  money  into  equity of both  publicly  traded  and  non-traded  companies  for dividends and capital gain.

• INTERCORPORATE DEPOSIT ( IDLC)

This disbursement scheme is offered to clients under two variations:

a) Non- Revolving ICD which consists of single disbursement of funds

b)  Revolving IDLC where multiple disbursements and collections take place

• WORK ORDER/PURCHASE ORDER FINANCING  

The clients are financed against their work order or purchase order on a revolving basis.

• FACTORING

Under this scheme, IDLC finances receivables of supply of goods or delivery of services on credit to help the clients realize the maximum portion of their payment soon after they have made the delivery to the buyer.  The payment is collected from the customers and the balanced amount is re-reimbursed to the clients.

• SYNDICATION

IDLC helps to raise fund for clients with huge financial requirement through syndication and also  help  them  with  the  documentation,  execution  and  administration  of the  syndicated finance.

• SECURITIZATION

IDLC sell financial instruments of organizations in local financial market backed by their asset/cash flows such as loan, lease etc.

• BRIDGE FINANCE

This refers to short-term finance (maturity of not more than 12 months) in anticipation of immediate long term financing such as public issue, private placement, syndication, loan, lease, debenture, etc.

1. CAP INVEST

IDLC maintains a non-discretionary portfolio account for clients where they have absolute power to make investment decisions. the portfolio manager provides margin loan to clients and also prepares the list of securities in which they can invest.

1. DEPOSIT SCHEMES

IDLC offer different variety of deposit schemes for clients:

• Cumulative Term Deposit
• Annual Profit Term Deposit
• Monthly Earner Deposit
• Double Money Deposit

1. CAR LOAN

Term loan are offered to clients for acquiring car, brand new or reconditioned, for their personal use and the ownership is transferred on loan repayment.

1. HOME LOAN

IDLC offers loans to purchase apartment to individuals for their personal use

1. REAL ESTATE FINANCE

IDLC   finances   clients   to   construct   house,   renovate   and   extend   house,   for   office chamber/space for professionals etc. under two different schemes:

• Developer’s Finance Scheme
• Corporate Finance Scheme

1. PRIVATE PLACEMENT

IDLC places the shares/debenture with both domestic and overseas investors (institutions or individuals) on private placement basis.

1. UNDER WRITING

IDLC makes a univocal and irrevocable commitment with an issuing company to subscribe to the securities of that company when the existing shareholders or the general public do not subscribe to the securities offered to them. The different types of underwriting offered are:

• Initial Public offering (IPO) of common stock, preferred stock, debentures etc.
• Right Issue
• Underwriting of public securities-loan, lease, debenture

1. ISSUE MANAGEMENT

Under this activity, IDLC plan, coordinate and control the entire issue activity of clients and direct other agencies for successful marketing of securities.

1. FINANCIAL ADVISORY SERVICE

IDLC help the existing venture or a new venture by providing various advisory services such as corporate counseling, project counseling, capital restructuring, financial engineering etc.

1. MERGERS AND ACQUISITION  

IDLC help clients to search for the right organization, evaluate the concern based on different types of analysis and select the method of m & a to make it a profitable deal.

• TRUSTEESHIP  MANAGEMENT  

We act as trustee for the debenture holders by accepting security created by the company and take action to safeguard their interest and enforce their rights.

Table: Product & Services offered by IDLC Finance Limited

2.7 DIVISIONS AND DEPARTMENTS

The organization includes divisions which mainly deal with the products and services and departments which support in the operating activities. The divisions are:

Ø    Corporate

Ø    SME

Ø    Merchant Banking

Ø    Personal Investment

Ø    Factoring

Ø    Structured Finance

Ø    Operations

The departments include

Ø  Credit Risk Management (CRM)

Ø  Treasury

Ø  Human Resource

Ø  Accounts and Taxation

Ø  Administration and PR

Ø  Operational Risk Management (ORM)/Internal Control Compliance (ICC)

Ø  Special Asset Management (SAM)

2.8 SWOT ANALYSIS

The SWOT analysis for IDLC can be described as follows:

Strengths

1. Reputation and brand image: IDLC is well-reputed company and has developed a brand image that is recognized by the customers. IDLC is an international joint-venture company and its shareholders have long records of sustainability and reliability in their respective fields. IDLC is one of the esteemed names in financial market of Bangladesh. Since 1985, IDLC has marked its journey through introduction of various innovative products and thus meeting the needs of large corporate clients.

• Product portfolio: IDLC has diverse product portfolio for customers which made them second to none in Non-Banking Financial Industry.

• Quality Customer Portfolio:  IDLC has a Credit Risk Management department of Multinational standard which enables the company to maintain a quality customer portfolio.

• Human Resources: The Company has competent management team. The overall work force of the company is considered as key resources for the organization. IDLC personnel are motivated, competent, energetic and creative. The company provides utmost support in terms of both technical and moral.

• Operational efficiency: IDLC provides customized solution to their customers to adjust their need. The company processes the loan applications quickly and smoothly. The sanction and disbursement of the loans are hassle-free.

• Employee Empowerment: At IDLC decision-making is free flowing and transparent. Every appraiser is given ample opportunity to exercise his/her creativity in accommodating a customer. Approvers are open for any discussion and sanction is largely based upon recommendation of the appraisers. The open and free flow of communication ensures clarification of any queries in no time–from any level of hierarchy. Reasonable suggestions are not only welcome but are highly appreciated. Effective suggestions by the employees are immediately set for action. This flexibility has helped IDLC a lot in shaping up its operations into a level of efficiency and to be an excellent performer in case of loan recovery.

Weakness

1. High Cost of fund:  IDLC as any other NBFIs have high cost of fund in comparison to banks. As NBFIs can take deposit for less than one year from any individuals as banks can do, the deposit base of IDLC is not strong enough to reduce the average cost of fund.

• More Focus on Volume:  Although IDLC has department called Credit Risk Management to monitor the asset quality of the company, still the company sometimes for the sake of profit and past relationship provide loans to customers who at the end hamper the portfolio quality of IDLC.

• Too Much Diversification: Too much diversification of product and services offering hamper the focus on the core services of the organization.

• Less People in Liability Marketing: IDLC still employs lesser number of workforces for the aggressive liability marketing in comparison to banks and NBFI like DBH.

Opportunities

1. Continuity of Liberalization: Government has continued to liberalize the economy towards more market orientation. This encouraged both local and foreign investors to invest in potential sectors. The privatization plan of government is likely to have positive impact on industrialization.
2. Foreign Investment in Prospective Sectors: In recent days foreign investment in the various prospective sectors has increased phenomenally. This creates a good opportunity for all financial institutions to enter in the booming new sector.
3. Local banks inefficiency: One of the major reasons for thriving of leasing company in Bangladesh is local banks inefficiency of providing project loan. This phenomenon still persists.

Threats

1. Threat from banks: In recent times banks are also entering into leasing business which is generally considered as functions of Non-Banking Financial Institutions.

• Regularity control of government: The legal framework of Bangladesh is relatively weak.  Lack  of  effective  foreclosure  laws  and  manual  land  recording  system  creates possibility of forgery and disputes. This may hinder the loan recovery from the defaulters.

2.8 Performance of IDLC Finance Ltd

Taka in million Financial Performance 2009 2010 2011 2012 2013 Growth Lease and term loans disbursed 3,412 3,750 4,345 8,517 12,304 44.46% Housing finance disbursement 1,612 1,839 2,121 2,586 2,736 5.81% Short term finance portfolio 336 317 468 821 581 -29.21% Lease Finance 4,734 4,383 4,107 4,547 5,479 20.50% Real estate finance assets 3,915 4,789 5,605 6,979 8,262 18.39% Total assets 17,342 22,681 26,930 31,165 37,784 21.24% Long term liabilities 12,115 18,792 21,745 25,299 32,492 28.43% Term deposit balance 8,249 9,780 12,373 16,828 22,008 30.78% Net current assets 1,559 3,645 4,172 3,676 2,797 -23.93%                                                                                                                                        Taka in million Operational Performance 2009 2010 2011 2012 2013 Growth Operational Income 1,179 1,913 3,047 2,160 2,403 11.27% Operational expenses 352 490 966 913 1,058 15.83% Financial expenses 1,553 1,687 1,822 2,364 3,103 31.23% Profit before tax 708 1,273 1,956 1,217 1,252 2.93% Net profit after tax 406 822 1,327 500 713 42.48% Average effective tax rate (%) 42.57 35.46 32.16 58.88 43.07 -26.84%                                                                                                                                           Taka in million Financial Ratios 2009 2010 2011 2012 2013 Growth Debt equity ratio (Times) 8.32 8.48 6.30 6.83 7.05 3.24% Financial expenses coverage ratio (Times) 1.46 1.75 2.07 1.51 1.40 -7.33% Current ratio (Times) 1.21:1 1.04:1 1.39:1 1.31:1 1.21:1 -0.08% Return on total assets (%) 2.50 4.11 5.35 1.72 2.07 0.35 Non performing loan ratio (%) 3.97 3.43 2.84 2.32 2.09 (0.23) Return on shareholders’ equity (%) 28.43 41.05 43.64 13.04 16.44 3.39 Earnings per share* (Taka) 3.28 6.64 10.72 4.04 5.76 42.48% Dividend per share 3.50 11.00 10.00 2.50 3.00 20.00% Price earnings ratio (Times) 55.76 44.60 34.67 27.41 15.95 -41.79% Dividend yield (%) 1.53 2.97 2.15 1.81 3.26 1.46 Dividend payout ratio (%) 21.55 40.14 45.21 49.47 52.08 2.61                                                                                                                                         Taka in million Equity Statistics 2009 2010 2011 2012 2013 Growth Number of shares (No.) 2,500,000 3,000,000 6,000,000 99,000,000 123,750,000 25.00% Year end market price per share (Taka) 2,289.00 3,703.00 4,648.00 138.50 91.90 -33.65% Net asset value per share (Taka) 16.28 24.17 37.27 40.21 47.41 17.91% Market capitalization 5,723 11,109 27,888 13,712 11,373 -17.06% Market value addition 212.62 346.13 427.53 98.29 44.49 -54.73% Shareholders’ equity 1,611 2,393 3,690 3,980 4,693 17.91%

* Prior years’ number of shares have been adjusted to reflect bonus share issued in 2011.

Reasons for major deviations from earlier years have been explained in the “CEO & Managing Director’s Review of Economic Environment & Business Performance”

3.0 Credit Risk Management

3.1 WHAT IS RISK?

In general Risk can be define as the “ Probability or threat of a damage, injury, liability, loss, or other negative occurrence, caused by external or internal vulnerabilities, and which may be neutralized through pre-mediated action.”

But  in  Finance  risk  is  defined  concerning  some  special  factors  of  market  and  other externalities which can affect an individual or organization’s decision. In Finance risk is defined as “Probability that an actual return on an investment will be lower than the expected return.”  Financial  risk  is  divided  into  the  following  general  categories:  (1)  Basis  risk: Changes in interest rates will cause interest-bearing liabilities (deposits) to re-price at a rate higher than that of the interest-bearing assets (loans). (2) Capital risk: Losses from un- recovered loans will affect the financial institution’s capital base and may necessitate floating of a new stock (share) issue.

Therefore to reduce this risk Banks, NBFIs, and other organizations take various types of measures so that it can be reduced in a minimal affordable limit. In Banks and NBFIs the core risk is credit risk. As Banks, NBFIs performs there major operations on providing loan, lease (for NBFIs) therefore there is a chance of default at time of repayment. So to reduce this default  risk  so  that  number  of  default  payment  does  not  increase  and  to  forecast  this probability with appropriate tools Banks, NBFIs always work on managing their Credit Risk. Several Guideline and standards are prepared so that Credit Risk for individual banks and NBFIs can be reduced.

3.2 CREDIT RISK

Credit  risk  is  the  possibility  that  a  borrower  or  counter  party will  fail  to  meet  agreed obligations. Globally, more than 50% of total risk elements in banks and FIs are Credit Risk alone.  Thus managing credit risk for efficient management of a FI has gradually become the most crucial task. Credit risk may take the following forms:

• In direct lease/term finance: rentals/principal/and or interest amount may not be repaid
• In issuance of guarantees: applicant may fail to build up fund for settling claim, if any;

• In documentary credits: applicant may fail to retire import documents and many others

• In factoring: the bills receivables against which payments were made, may fail to be

Paid

• In treasury operations: the payment or series of payments due from the counter parties under the respective contracts may not be forthcoming or ceases

• In securities trading businesses: funds/securities settlement may not be effected

• In cross-border exposure: the availability and free transfer of foreign currency funds may either cease or restrictions may be imposed by the sovereign

Credit risk management encompasses identification, measurement, matching mitigations, monitoring and control of the credit risk exposures to ensure that:

• The individuals who take or manage risks clearly understand it
• The  organization’s  Risk  exposure  is  within  the  limits  established  by  Board  of
• Directors with respect to sector, group and country’s prevailing situation
• Risk taking Decisions are in line with the business strategy and objectives set by BOD
• The expected payoffs compensate the risks taken
• Risk taking decisions are explicit and clear
• Sufficient capital as a buffer is available to take risk

3.3 CREDIT RISK MANAGEMENT PROCESS

Credit risk management process should cover the entire credit cycle starting from the origination  of  the  credit  in  a  financial  institution’s  books  to  the  point  the  credit  is extinguished from the books.  It should provide for sound practices in:

• Credit processing/appraisal;
• Credit approval/sanction;
• Credit documentation;
• Credit administration;
• Disbursement;
• Monitoring and control of individual credits;
• Monitoring the overall credit portfolio (stress testing)
• Credit classification; and
• Managing problem credits/recovery

3.3.1. CREDIT PORCESSING / APPRAISAL:

Credit processing is the stage where all required information on credit is gathered and applications are screened. Credit application forms should be sufficiently detailed to permit gathering of all information needed for credit assessment at the outset. In this connection, NBFIs should have a checklist to ensure that all required information is, in fact, collected.

NBFIs should set out pre-qualification screening criteria, which would act as a guide for their officers to determine the types of credit that are acceptable. For instance, the criteria may include rejecting applications from blacklisted customers. These criteria would help institutions avoid processing and screening applications that would be later rejected.

In the case of loan syndication, a participating financial institution should have a policy to ensure that it does not place undue reliance on the credit risk analysis carried out by the lead underwriter.  The  institution  must  carry out  its  own  due  diligence,  including  credit  risk analysis, and an assessment of the terms and conditions of the syndication.

The appraisal criteria will of necessity vary between corporate credit applicants and personal credit customers.   Corporate credit applicants must provide audited financial statements in support of their applications. As a general rule, the appraisal criteria will focus on:

• Amount and purpose of facilities and sources of repayment;
• Integrity and reputation of the applicant as well as his legal capacity to assume the credit obligation;
• Risk profile of the borrower and the sensitivity of the applicable industry sector to economic fluctuations;
• Performance  of  the  borrower  in  any  credit  previously  granted  by  the  financial institution, and other institutions, in which case a credit report should be sought from them;
• The borrower’s capacity to repay based on his business plan, if relevant, and projected cash flows  using different scenarios;
• Cumulative exposure of the borrower to different institutions;
• Physical inspection of the borrower’s business premises as well as the facility that is the subject of the proposed financing;
• Borrower’s business expertise;
• Adequacy  and  enforceability  of  collateral  or  guarantees,  taking  into  account  the existence of any previous charges of other institutions on the collateral;
• Current and forecast operating environment of the borrower;
• Background information on shareholders, directors and beneficial owners for corporate customers; and
• Management capacity of corporate customers.

3.3.2 CREDIT APPROVAL/SANCTION

A financial institution must have some written guidelines on the credit approval process and the approval authorities of individuals or committees as well as the basis of those decisions. Approval authorities should be sanctioned by the board of directors.   Approval authorities will cover new credit approvals, renewals of existing credits, and changes in terms and conditions of previously approved credits, particularly credit restructuring, all of which should be fully documented and recorded. Prudent credit practice requires that persons empowered with the credit approval authority should not also have the customer relationship responsibility.

Approval authorities of individuals should be commensurate to their positions within management ranks as well as their expertise. Depending on the nature and size of credit, it would be prudent to require approval of two officers on a credit application, in accordance with the Board’s policy. The approval process should be based on a system of checks and balances. Some approval authorities will be reserved for the credit committee in view of the size and complexity of the credit transaction.

3.3.3 CREDIT DOCUMENTATION

Documentation is an essential part of the credit process and is required for each phase of the credit cycle, including credit application, credit analysis, credit approval, credit monitoring, and collateral valuation, and impairment recognition, foreclosure of impaired loan and realization of security.   The format of credit files must be standardized and files neatly maintained with an appropriate system of cross-indexing to facilitate review and follow-up.

Documentation establishes the relationship between the financial institution and the borrower and forms the basis for any legal action in a court of law.   Institutions must ensure that contractual agreements with their borrowers are vetted by their legal advisers. Credit applications must be documented regardless of their approval or rejection.

For security reasons, financial institutions need to consider keeping the copies of critical documents (i.e., those of legal value, facility letters, and signed loan agreements) in credit files while retaining the originals in more secure custody. Credit files should also be stored in fire-proof cabinets and should not be removed from the institution’s premises.

3.3.4 CREDIT ADMINISTRATION

Financial institutions must ensure that their credit portfolio is properly administered, that is, loan agreements are duly prepared, renewal notices are sent systematically and credit files are regularly updated.

An institution may allocate its credit administration function to a separate department or to designated individuals in credit operations, depending on the size and complexity of its credit portfolio. A financial institution’s credit administration function should, as a minimum, ensure that:

• Credit files are neatly organized, cross-indexed, and their removal from the premises is not permitted;
• The borrower has registered the required insurance policy in favor of the bank and is regularly paying the premiums;
• The  borrower  is  making  timely  repayments  of  lease  rents  in  respect  of charged leasehold properties;
• Credit facilities are disbursed only after all the contractual terms and conditions have been met and all the required documents have been received;
• Collateral value is regularly monitored;
• The borrower is making timely repayments on interest, principal and any agreed to fees and commissions;
• Information provided to management is both accurate and timely;
• Funds disbursed under the credit agreement are, in fact, used for the purpose for which they were granted;
• “Back office” operations are properly controlled;
• The established policies and procedures as well as relevant laws and regulations are complied with; and
• On-site  inspection  visits  of  the  borrower’s  business  are  regularly  conducted  and assessments documented.

3.3.5 DISBURSEMENT

Once the credit is approved, the customer should be advised of the terms and conditions of the credit by way of a letter of offer. The duplicate of this letter should be duly signed and returned to the institution by the customer. The facility disbursement process should start only upon receipt of this letter and should involve, inter alia, the completion of formalities regarding documentation, the registration of collateral, insurance cover in the institution’s favor and the vetting of documents by a legal expert. Under no circumstances shall funds be released prior to compliance with pre-disbursement conditions and approval by the relevant authorities in the financial institution.

3.3.6 MON ITORING & CONTROL OF INDIVIDUAL CREDIT S

To safeguard financial institutions against potential losses, problem facilities need to be identified early. A proper credit monitoring system will provide the basis for taking prompt corrective actions when warning signs point to deterioration in the financial health of the borrower. Examples of such warning signs include unauthorized drawings, arrears in capital and interest and deterioration in the borrower’s operating environment. Financial institutions must have a system in place to formally review the status of the credit and the financial health of the borrower at least once a year.  More frequent reviews (e.g. at least quarterly) should be carried  out  of  large  credits,  problem  credits  or  when  the  operating  environment  of the customer is undergoing significant changes.

• Funds  advanced  are  used  only  for  the  purpose  stated  in  the  customer’s  credit application;
• Financial condition of a borrower is regularly tracked and management advised in a timely fashion;
• Borrowers are complying with contractual covenants;
• Collateral  coverage  is  regularly  assessed  and  related  to  the  borrower’s  financial health; The institution’s internal risk ratings reflect the current condition of the customer;
• Contractual payment delinquencies are identified and emerging problem credits are classified on a timely basis; and
• Problem credits are promptly directed to management for remedial actions.
• More  specifically,  the  above  monitoring  will  include  a  review  of  up-to-date information on the borrower, encompassing:
• Opinions from other financial institutions with whom the customer deals;
• Findings of site visits;
• Audited financial statements and latest management accounts;
• Details of customers’ business plans;
• Financial budgets and cash flow projections; and
• Any relevant board resolutions for corporate customers.

3.3.7 MAINTAINING THE OVERALL CREDIT PORTFOLIO

An important element of sound credit risk management is analyzing what could potentially go wrong with individual credits and the overall credit portfolio if conditions/environment in which borrowers operate change significantly. The results of this analysis should then be factored into the assessment of the adequacy of provisioning and capital of the institution. Such stress analysis can reveal previously undetected areas of potential credit risk exposure that could arise in times of crisis. Possible scenarios that financial institutions should consider in carrying out stress testing include:

• Significant economic or industry sector downturns;
• Adverse market-risk events; and
• Unfavorable liquidity conditions.
• Financial institutions should have industry profiles in respect of all industries where they have significant exposures. Such profiles must be reviewed /updated every year.

3.3.8 CLASSIFICATION OF CREDIT

Credit classification process grades individual credits in terms of the expected degree of recoverability. Financial institutions must have in place the processes and controls to implement the board approved policies, which will, in turn, be in accord with the proposed guideline. This guideline may also be called as Credit Risk Grading (CRG), is a collective 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.

Credit risk grading is an important tool for credit risk management as it helps the 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 FI. The credit risk grading system is vital to take decisions both at the pre-sanction stage as well as post-sanction stage. Two- types of factors play vital role in modeling the CRG, they are,

• Quantitative factors
• Qualitative factors

The chart is given in the following page: —

At the pre-sanction stage, credit grading helps the sanctioning authority to decide whether to lend or not to lend, what should be the lending price, what should be the extent of exposure, what should be the appropriate credit facility, what are the various facilities, on the basis of the above factors. At the post-sanction stage, the FI can decide about the depth of the review or renewal, frequency of review, periodicity of the grading, and other precautions to be taken. Risk grading should be assigned at the inception of lending, and updated at least annually.

              4.0 Findings and Analysis —

Credit Risk Management by IDLC Finance Ltd

To perform the overall CRM process 3 departments are working together at IDLC Finance Ltd.  As a leading NBFI in Bangladesh IDLC has always tried to maintain the quality they achieve through 24th year business tenure.

These three departments are-

4.1 PROCEDURAL WORKFLOW OF LEASE MARKETING

At the initial stage, IDLC concentrated to establish a market and then enlarge the market. The criteria based on which the market for lease financing has been established are as follows:

• Diversification of portfolio
• Selecting top industrial unit in the respective industry
• Financing for Balancing, Modernization, Replacement and Expansion (BMRE) of existing unit
• Priority of existing leases
• Set up priority based on sector wise performance

Primary  focus  of  IDLC  till  now  is  in  the  area  of  financial  leasing  of  industrial  and professional equipment and vehicles for three to five years term with particular emphasis on BMRE of existing units. Instead of lending funds to purchase equipment, IDLC provides the equipment and extends the exclusive right to its use against specified rental payments at periodic intervals.

There are two types of client for which the procedural work flow would be different though the basic part would be the same. The different types of clients are

• Existing Clients – with whom IDLC has already been working
• New Clients – with whom IDLC has no business yet

The above procedures are briefly described below:

• The client applies for required facility through letter. These required facility can vary from different sort of equipment’s for BMRE to vehicles or expansion projects. The letter generally consists of brief description about the asset to be procured, its price and reason for procurement along with its lease period.

• IDLC studies the proposal and sends an offer letter to the client. The offer letter contains  acquisition  cost,  lease  period,  per  month  rental  and  other  terms  & conditions to be applied if the agreement is done. It is to be noted here that the offer letter is a mere offer and by no means an agreement between the two parties. Thus, the terms & conditions may change upon final agreement. However, it seldom changes as that will hamper the goodwill of the company.
• The client accepts the offer and submits an accepted offer letter. If the client agrees to the terms & conditions of the offer letter, they sign & seal the offer letter as accepted and send it back to IDLC.

• IDLC collects initial information about the client. The initial information are:

• CIB Undertaking & Form XII (if a limited company) for that client to be sent to Bangladesh Bank for CIB Report of the applying client (as per rule of Bangladesh Bank)
• IDLC looks for banks opinion for that client

• The designated Relationship Manager prepares the appraisal report and evaluated the client’s proposal. The appraisal report consists of

• Background analysis of the company
• Management and organization
• Cost estimate of equipment/vehicle
• Technical and marketing analysis, both from macro and micro level
• Financial analysis of the company. i. e. profitability projection, credit report, year wise performance

• The appraisal report seeks approval from the appropriate authority. First of all the Relationship Manager places the report to  Credit  Evaluation Committee (CEC), which consists of representative from Credit Risk Management, Operational Risk Management, General Manager and Deputy Managing Director. After CEC consent, the report is sent to approving authority.

• After approval, the documentation process starts.  A sanction ledger is prepared and a sanction letter is issued in the client’s name. However, depending on the nature of negotiation, the documentation procedure varies.

• The client collects the asset.

• Proper insurance coverage is done depending upon the asset and procurement of asset from a selected pool of insurance companies.

• The lease operation starts i.e. a formal agreement is signed by both IDLC and lessee. The lessee starts to pay the rental and the lease continues.

• Generally,  just  after  the  last  rental  is  paid  on  a  regular  basis,  the  transfer  of ownership  takes  place.  Depending upon the negotiated transfer price at the beginning, IDLC transfers the asset’s ownership to the client and lease expires. However, the lease operation can also be expired early through partial termination or foreclosure.

For new clients the following few steps are added:

• Identification of client – the identification of new client is done through relationship management. The main sources of information about new clients are:

• Existing client
• Word of Mouth
• Internal Connection
• Client call
• Walk-in Client

• Prepare extensive appraisal report and seek formal bank & FI opinion.

• The documentation procedure can differ depending upon the modes of acquisition of asset.

4.2 FACTORS SCRUTINIZED DURING APPRAISAL PROCEDURE

According to the guideline provided by Bangladesh Bank, IDLC considers the following factors while appraising a client and its finance proposal:

1. Business Risk Factors:

• Industry
• Size
• Maturity
• Production
• Distribution
• Vulnerability
• Competition
• Demand- supply situation
• Strategic importance for the group and for the country
• Concentration
• Market reputation
• Financial Risk Factors:

• Profitability
• Liquidity
• Debt management
• Post Balance sheet events
• Projections
• Sensitivity Analysis
• Peer Group Analysis
• Other Bank Lines

• Management Risk Factors:

• Experience/relevant background
• Track record of management in see through economic cycles
• Succession
• Reputation

• Structural Risk Factors:

• Identify working capital requirement
• Relate the requirement with asset conversion cycle
• Purpose of the facilities should be clear and thus mode of disbursement should be preferably structured in a manner to make direct payment to the third party through LC, pay order, Bangladesh Bank cheques etc.

• Security Risk Factors:

• Perishability
• Enforceability /Legal structure
• Forced Sale Value (calculations of force sale value should be at least guided by
• Bangladesh Bank guidelines)

4.3 WEIGHTS ASSIGNED TO EACH RISK FACTOR

CRITER IA	WEIGHT
LEVERAG ING     The ratio of a borrower’s total debt to tangible net worth.	20%
LIQUIDITY         The ratio of a borrower’s Current Assets to Current Liabilities.	20%
PROFITAB ILITY           The ratio of a borrower’s Operating Profit to Sales.	20%
ACCOUNT CONDUCT           Time length of relationship with the client	10%
BUSINESS OUTLOOK                                                                                  A critical assessment of the medium term prospects of the borrower, taking into account the industry, market share and economic factors.	10%
CRITER IA	WEIGHT
MANAGEMENT                                                                                               The  quality  of  management based on the  aggregate number  of  years that  the  Senior   Management Team (top 5 executives) has been in the industry.	5%
PERSON AL DEPOSITS                                                                                          The extent to which the bank maintains a personal banking relationship with the key business sponsors/principals.	5%
AGE OF BUSINESS                                                                                                             The number of years the borrower has been engaged in the primary line of business.	5%
SIZE OF BUSINESS                                                                                                             The  size  of  the  borrower’s  business  measured  by  the  most  recent  year’s  total  sales. Preferably based on audited financial statements.	5%

4.4 MEASURES TAKEN FOR RESTORATION OF DEFAULT CLIENTS

The Special Asset Management Department of IDLC is responsible for mending and improving the repayment pattern of the default clients. Principal Objectives of the SAM department is keeping overdue situation at possible lowest level so that provision for dues can be minimized so that the negative impact of defaults on the reported profit of IDLC can be kept at minimum level.

For this the department goes through the following procedures:

1. Monitoring the overdue situation of the financed projects
2. Initiating procedures as appropriate for each case

Some clients fail to make payments of rentals/ installments to the lender/ lessor institution. In several cases, the failure is temporary, which is eventually paid within a short time. But in other cases, the client continues to default and the situation worsens since it deteriorates the profitability condition of IDLC, just like any other Financial Institution.  So, critical measures are taken on the part of IDLC and these measures are mainly undertaken by Special Asset Management Department.

4.5 FUNCTIONS OF SPECIAL ASSET MANAGEMENT (SAM)

The Special Asset Management Department performs a number of activities to keep the overdue situation of IDLC within minimum level. These are:

1. Overdue Monitoring- Corporate, SME, Syndication
2. Overdue follow Up- Corporate, SME, Syndication(Phone, Visit, letter)
3. SAM Client Follow Up- (Regular, Difficult, Block, Litigated)- Phone, Visit, Letter, Negotiation
4. Termination, Block & Litigation- Initialization, Follow up, Court Attendance
5. Appointment of Lawyers for different Legal Procedures
6. Recovery Agent Appointment & Follow up
7. Rescheduling- Negotiation, Approval, Follow up
8. Routine works- Receivable Calculation, Closure, Waiver Approval, Adjustments, and Reconciliation.
9. Letter Issue- Overdue Clients

SAM departmental Targets:

1. Collection of Overdue Rentals
2. Reduction of Non- performing Loans (NPL)
3. Reduction of Infection ratio
4. Bad/Loss Provision Management- Incremental Provision Control

4.5.1. RECOVERY ACTION PLAN BY SAM

Special asset management takes various recovery actions to reduce the overdue amount, thus reducing the infection ratio. These actions differ on the basis of investment classification as follows;

4.5.1.1 REGULAR ACCOU NTS (RGACC )

Age of overdue: One to Three months

• Call immediate extra working day after 1st default installment to remind about overdue.
• Try to get specific commitments from client. Committed date should not exceed seven days.
• In case of no response from client within seven days, call the client again in order to ascertain reasons for delay and obtain another specific date for payment.
• In case of failure to reach client through phone calls within seven days from the due date of payment, send reminder letter and visit client’s office.
• To create pressure, try to bring client to IDLC office for discussion over solution of default situation.

Age of Overdue: Four to Five months

• Try to get specific payment date through phone calls, e-mails and repeated visits.
• Try to get written commitments along with instruments (if required)
• Send reminder letters within three working days of default of fourth installment. If required, the reminder letter contains a clause indicating that legal actions may follow.
• Try to bring client to IDLC office for discussion over solution of default situation.
• If deemed necessary, arrange meetings between higher management of IDLC and the owners/ directors, etc. of the chronic organizations.

4.5.1.2 SPECIA L ACCOUNTS (SPACC)

Age of Overdue: Above Five Months

1. Review  security  status  of  the  account  and  based  on  the  nature  of  the  default, undertake following measures:

• Send final reminder letter to the defaulting client, allowing them time up to 15 days to pay the overdue. The letter contains various measures that would be taken, if deadlines for payment expire, as per the law of the land or regulatory authorities.

• In case of no development, send legal notices through lawyers after receipt of senior management’s approval.

• Based on the nature of the default, may appoint Recovery/Repossession Agents with management approval.

• If  no  improvement  takes  place  after  the  above  actions,  initiate  the  following measures:

• Legal Actions as per the merit of the security of the defaulting clients.

1. File suit under the negotiable Instrument (NI) Act.
2. File suit under Artha Rin Aine (ARA) or Bankruptcy Act.

• Circulates Names of defaulting borrowers and relevant persons and organizations among banks and financial institutions of Bangladesh.

• At any point of Overdue over 3 months, the following actions may be undertaken under subjective judgment.

1. Reschedule the account- if deemed feasible
2. Transfer accounts to block account- if deemed necessary
3. Terminate the account- as initial step to filing ARA suit or to pressurize client.

4.6 IMPACT OF OVERDUE ON PROFIT PERFORMANCE OF NBFI

Every financial institution is required by Bangladesh Bank to keep a certain portion of the overdue amounts as provision. This provision amount is subtracted from the profit of the institution.  So,  overdue’s  have  direct  negative  effect  on  the  reported  profit  and  thereby reported performance of a financial institution.

The base for calculation of base for provision is computed as follows:

Outstanding = Overdue + URPA

Base for Provision = Outstanding – Securities (100% of Cash-Bond-Guarantee / 50% of Mortgaged Property) – Interest Suspense

4.6.1 PROVISIONING POLICY OF BANGLADESH BANK

Bangladesh Bank Guideline regarding Investment Classification:

Investment shall be classified as follows:

1. Unclassified
2. Sub-standard
3. Doubtful
4. Bad/Loss

Classification     Period	Sub–standard   (Overdue   for the period)	Doubtful   (Overdue   for   the period)	Bad/Loss   (Overdue   for   the period)
<5 years-  Lease/Term loan	6>months<12	12>months<18	18>months
>5 years-  Lease/Term loan	12>months<18	18>months<24	24>months
<5 years- Home loan	12>months<18	18>months<14	24>months
>5 years- Home loan	18>months<24	24>months<36	36>months
Credit card loan	6>months<9	9>months<12	12>months

According  to  Bangladesh  Bank  Guideline  the  financial  institutions are required  to  keep provision as follows:

Provisioning:

The provisions for classified investment should be as follows,

1. Un-classified: 1%
2. Sub-standard: 20%
3. Doubtful: 50%
4. Bad/loss: 100%

Provision shall be kept on Term loan/lease/home loan classified as bad/loss after deducting suspense interest/principle and appropriate security value from the suspense account.

4.6.2 PROVISIONING POLICY OF IDLC

IDLC  uses  a  more  conservative  approach  in  keeping  provision  than  that  required  by Bangladesh Bank. This is shown in the following figure:

Month Overdue	% of Base kept as provision
00	1%
01-03	3%
04-06	25%
07-12	50%
12+	100%

4.7 DEFAULT CLIENT CHARACTERISTICS ANAYSIS

This section of the report describes the characteristics of the default clients of IDLC. For this part, a total of nine characteristics of the default clients have been used and a sample size of fifty defaulters has been taken. All of these factors have been used to analyze default client character  analysis  in  previous  reports  and  working  papers  at  different  times  and  in perspective of different countries and areas. The reference part of the appendix gives the list of working papers and research reports where these factors were used in the past.

The nine attributes used for analysis of the default clients are listed below:

1. Industry Perspective
2. Cost of Project to Sales Volume
3. Asset Size
4. Debt-Equity Ratio
5. Interest Rate Charged
6. Business Experience of the Sponsors
7. Security Ratio
8. Relationship with the Client
9. Past Repayment Performance of the Client

These attributes have been used in previous papers to examine the defaulters of financial institutions. The attributes used have been taken to measure the common characteristics of the defaulters of IDLC. These nine attributes of the default clients are analyzed to find out whether any relationship exists between each attribute and the default volume. The analysis would assist the finance proposal appraisers of NBFIs to be more diligent about the factors which have greater impact on defaults.

For some factors, only volume differences among various levels are shown; in other cases, regression analysis has been used to show the intensity of relationship between that factor and default structure.

4.7.1 INDUSTRY ANALYSIS

Any financial institution finances projects in various industries. The firms belonging to any industry in a country that need financing for any of their purpose may come to financial institution and if approved, avail funds from the financial institutions. IDLC has existing financing facility to the following eighteen industrial sectors. The table includes the total volume of financing to the sectors and percentage of default of the total volume of financing in each sector.

Industry	Volume	Default/Total Volume
Food	1,000,518,400	3.28%
Transport	751,942,400	4.51%
Financial Services	709,218,400	0.00%
Textiles	635,422,400	0.68%
Packaging	626,877,600	0.26%
Building & Construction	544,536,800	0.00%
Leather	492,491,200	1.72%
Power & Energy	417,141,600	2.13%
Agro Based industry	400,828,800	3.19%
Apparels	374,417,600	13.95%
Iron & Steel	355,774,400	2.70%
Furniture	282,755,200	0.25%
Pharmaceuticals	257,897,600	0.85%
Housing & RE	231,486,400	0.44%
IT	201,191,200	14.91%
Education	180,994,400	0.00%
Tele-communication	125,841,600	0.00%
Others	178,664,000	0.91%

The table above shows that the two sectors have defaulted a high portion of financing in those sectors. One sector is Information Technology. The defaulters in this sector were mainly IT education firms. There was a fad in our country about IT education and a large number of firms mushroomed for this purpose. Some of them availed financing from IDLC. As the fad fades away they eventually fell in trouble and started defaulting.

The other highly defaulting sector, apparel, is a rather confusing one. This sector defaults mainly for management deficiencies. The sector is in most cases operating profitably. But their management is reluctant to pay off the debt.

The other sectors that need much care at the time of financing are Transport, Food, Agro based products and Iron and Steel sector. The Transport sector defaulters are mainly taxi cab importers who sublease the vehicles to individuals. The low quality of the vehicles was the main reason of their business failure and default.

The Food and Agro Based products are subject to high volatility in sales volume. The Iron and Steel sector has the problem of unavailability of quality raw materials. The minimum defaulting sectors are Education, Telecommunication, and Financial Services.

4.7.2 COST OF PROJECT TO SALES VOLUME

The cost of project in this section refers to the amount financed by IDLC to each client. The sales volume has direct relationship with the amount it borrows.

The above figure shows the relationship between the ratio of Sales Volume to Cost of the Project and default volume.  The figure indicates a strong relationship between the two variables and the relationship is negative. It comes down to the fact that the higher the Sales Volume to Cost of the Project Ratio is lower is the default amount.

The relationship simply defines the ability of the borrower to pay off the amount it borrows for a project. Thus the appraiser needs to be diligent in analyzing the finance proposal whether the borrower produces enough sales volume to make sure he can pay off the debt.

4.8.3 ASSET SIZE OF THE BORROWER

The asset size is used to describe the scale of the borrowers’ business. In conventional thought, the larger the asset base of an organization, the higher its ability to generate funds and pay off its debts. But the following figure shows otherwise:

In the above figure we see an unconventional relationship between the asset base of a borrower and their respective default volume. The relationship is positive and strong. The reason behind the above relationship is that the firms with higher volume of business generally need higher amount of fund. It is because most of their projects, whether it is capacity building, expansion or other, are large in volume.

So when they default, the default volume also becomes large. Therefore the conventional thought of greater stability of firms with larger asset volume does not work here. The default frequency does not depend on the asset base of the defaulter. But the default amount is higher in case of the borrowers with larger asset base. Thus, the appraiser has to take care in financing the larger business firms since if they default, it will have greater impact on their financial institution.

4.7.4 DEBT/EQUITY RATIO

Debt/Equity ratio is a common tool to measure an entity’s debt position relative to its equity volume. Equity, that is the capital provided by the owners of a firm serves as cushion to the fund availed from the lenders and other creditors of the firm.

It is a measure of the financial leverage used by a firm. When an organization uses debt funds, it is said to be leveraging financially. The greater financial leverage a firm utilizes (that is the higher its debt/equity ratio), the riskier it becomes to pay off their debt.

Any loan appraiser uses the Debt/Equity ratio to see how much debt the firm is already using in relative to its equity. The basic assumption is that the firm will be less likely to repay its new debt if it is already using a large amount of debt.

The above figure confirms the conventional theory regarding the Debt/Equity ratio. Here we see a strong positive relationship between the ratio and the default volume of the default clients of IDLC. The analysis affirms the importance of measuring a client’s debt/equity ratio by a lender while appraising a client and forecasting its future repayment performance.

4.7.5 INTEREST RATE CHARGE

Except for the central bank’s special provisions in respect of interest rates to be charged on the borrowers of some special characteristics, interest rate is charged on each loan/lease on the basis of the appraiser’s analysis of the risk of financing the proposed borrower.

A financial institution first calculates its weighted average cost of capital. This is used as the basis for calculating the interest rate when financing a borrower. The financer evaluates the risk exposure of lending funds to a borrower and then charges a risk premium that is added to the financial institution’s own cost of capital. The rates charged are kept within a predefined range.

To comprehend the impact of the magnitude of interest rate on the repayment performance of the borrowers the following figure can be examined:

The above figure shows a weak relationship between the interest rate charged and the default amount of the borrowers which indicates that interest rate is a minor determinant of the defaulting nature of the clients. The interest rates are gauged before financing devising it upon the forecasted cash flows of the client and repayment amounts are determined accordingly, this factor logically has low effect on the repayment performance.

4.7.6 SPONSORS BUSINESS EXPERIENCE

The business experience of the sponsors of an organization acts as a positive factor to the future prospects of the organization itself. The sponsors with long business experience are able to run the business more successfully than the ones with little experience.

Therefore this factor is considered by the loan appraisers as the businesses of the sponsors having longer experience are less likely to fail and default their repayments.

The above figure depicts the relationship between the sponsors’ experience in the relevant business and the default volume. The figure reconfirms the logical assumption regarding the relationship between the two.  It reveals a negative relationship between the sponsors’ business experience and default volume. But the relationship is not very strong.

4.7.7 SECURITY RATIO

Security Ratio is the ratio of the monetary amount of the security kept by a financer to the amount financed. The security amount is deposited by the borrower to the financer as cash deposit, security deposit, etc. This amount is readily available to the financial institution in case the borrower defaults in making its payments.

The security ratio demonstrates the portion of the borrowed amount that the lender can recover from the client without facing any difficulty. This means that the higher the security ratio for a client, the greater amount of money the borrower has to lose immediately if it defaults in repayment of the facility it availed.

The  figure  above  shows  a  negative  relationship  between  the  security  ratio  and  default volume, that is, the higher the security ratio, the lower is the default volume. Further, the relationship is quite strong. This indicates that the security ratio acts as safeguard against defaults and at the same time discourages the borrowers from defaulting.

5.0 Recommendation & Conclusion

5.1 RECOMMENDATION

As a pioneer and leading NBFI in Bangladesh IDLC Finance Ltd have been maintaining its quality in a smooth way. Their experience in the field of lease and other loan product make them very much cautious about the risk. A very skillful and technically enriched department always working in their full capacity to analyze the risk of the their product and services, So far they proof them as a successful organization in assessing risk and thus take care off it. Undoubtedly IDLC Finance Ltd is the best in NBFI sector therefore findings are general and recommendation is not that much necessary for the organization in the overall Credit Risk Management Procedure. Still the following can be mentioned,

• More detail information shall be tried to find out so that assessment can be made more accurately.
• As  market  is  very  much  flexible  so  special  concentration  should  be  given  in assessing the individual industry risk.
• In case of individual client assessment should be made in more details.
• There shall be an extra caution in making provisions against all defaults so that unwanted risk can be absorbed more easily.

5.2 CONCLUSION

To conclude the report, it is imperative to mention that default clients have been a major problem for the Non-Banking Financial Institutions for long and the financial institutions have been trying to minimize the default problem all along. The central bank of Bangladesh has been striving to assist the financial institutions to get out of the default problem and formulating policies for that purpose. As a continuance to this, Bangladesh Bank has been providing directives when and where it seems to be necessary.

In Bangladesh many business organizations are still facing problems in the functioning of smooth business operations and moreover they concentrate on making profit more than their safety as a result of this they sometime get out of safety caution to absorb the industry sock. Therefore fall in to loss and sometimes get liquidated. The consequence of this is that NBFIs do not get their due amount in time which is a big and foremost risk to the organizations.  To overcome this, a very important factor to which risk weights have to be raised is the past default behavior of the borrowers. From interviews with the higher management of IDLC, who are much knowledgeable in this area have opined that one the most important factors that can be used to predict the future payment performance of the borrower is his character regarding repayment of his borrowed fund.

Another critical matter is that the financial statements of the business organization in fact contain manipulated data. So the analysis of such statements leads to  wrong and  faulty conclusion. This problem can be solved by judging the financial statement by individual amount specially which will provide information for the beneficiary of the NBFIs.

Also, law enforcement needs to be stronger and faster so that the willful defaulters can be punished for their defaults promptly. This will also cause the genuine business people to be more cautious when availing finance from financial institutions. The CIB database is a good start in this respect and has served to improve the overall loan repayment situation by the borrower.

In the end, it can be remarked that the central financial authority as well as all the financial institutions have to continuously analyze the overall environment, economic, social, business, cultural and so on. Depending on this, they have to improve their risk evaluating procedure.

Reference         

1. Annual report, 2010, 2011, 2012, 2013- IDLC Finance Limited. 
2. Bangladesh Bank Guideline and Circulars Regarding NBFIs.
3. http://www.idlc.com/index.php
4. http://www.idlc.com/annual-reports.php
5. Bangladesh Bank, (2012), Available: http:// www.bangladesh-bank.org
6. Bringham, Eugene, F, Gapenski, L.C., (2003), Intermediate of Financial Management, (7^th Edition) Prentice Hall, New York.
7. Bodie Z, Kane. A, Marcus. A. J, (2004), Investments, (6^th edition), Tata McGraw-Hill Publishing Company Limited, New Delhi.
8. Business    Information    and    Service    Line    (2013),    Price    Graph    of   IDLC, Available:http://www.biasl.net/CompanyInfo.aspx, [2013, 30^th May]
9. Foster G, (1996), Financial statement analysis (2nd edition), Perason education, India.
10. Fraser L.M, Ormiston. A, (2001), understanding financial statements (6^th edition) prentice hall of India pvt. Ltd.
11. Hill, T. & R. Westbrook (1997). SWOT Analysis: It’s Time for a Product Recall. Long Range Planning 30 (1): 46-52.
12. Kevin. S. (2006), Portfoilo Management, (2^nd edition), Prentice Hall of India Private Limited, New Delhi.
13. Khan M.Y, Jain P.K, (2004), Financial management- text and problems (3^rd edition), Tata Mcgraw hill publications co. ltd.

Mba 665 final project-impact of governmental action on a business paper