INTRODUCTION
Objectives of the thesis
Financial institutions are crucial to the success of any economy, as they provide essential support for growth objectives Without the backing of commercial banks and other banking service providers, countries would struggle to achieve their economic goals.
With the main function of receiving money deposit from money supplier and lending it to money user, banks works as intermediaries in the money market.
Without banks, transferring money from those with excess funds to those in need would face significant barriers, including information gaps and geographical challenges However, the banking industry carries substantial risks; as intermediaries, banks extend large loans to numerous borrowers while maintaining relatively small capital reserves Consequently, certain incidents can lead to situations where loan losses surpass their capital, potentially resulting in bankruptcy.
In Vietnam, banking is a very flourishing industry but are facing many difficulties Currently, 25 years after the economic reform, there are about 40
Vietnam's banking sector, comprised of commercial joint stock banks, three state-owned banks, and various foreign institutions, plays a crucial role in the nation's economic progress However, the industry faces significant challenges, particularly in minimizing credit risk amidst the lingering effects of the 2007-2009 global financial crisis High inflation, rising interest rates, increased input costs, and fluctuations in USD and gold prices complicate access to financing for Vietnamese companies and small businesses Consequently, commercial banks must exercise extreme caution in their lending practices, as the likelihood of borrowers encountering difficulties in meeting their credit obligations is heightened in this volatile environment.
This thesis investigates how commercial banks manage their credit risk portfolios, focusing specifically on the Duyen Hai branch of the Vietnam Asian Commercial Bank in Haiphong city, where the author completed an internship.
Overview of the subjected bank
1.2.1.Overview of Asian Commercial Bank (ACB)
In June 04, 1993, Asian Commercial Bank’s foundation was official announced and regulated in licenses number 0032/NH-GP issued by SBV in
April 24, 1993 and 533/GP-UB issued by People committee of Ho Chi Minh city.
ACB and its subsidiaries primarily focus on mobilizing deposits from money suppliers through various maturities and payment methods Their services include providing loans to money users, payment solutions, discounting securities, trading foreign currency and gold, stock brokerage, and a range of corporate financial services such as banker acceptance, financial leasing, and financial consulting ACB became a publicly traded company on October 31, 2006.
1.2.2 Overview of ACB Duyen Hai branch
Foundation of Duyen Hai branch was regulated in license 3156/GCT.
Duyen Hai branch locates at 15 Hoang Dieu street, Minh Khai, Hong Bang,
Structure of Duyen Hai branch
Structure of Duyen Hai branch includes director and specialized departments:
Collateral legalizing and validating department
Ass et legalizing and validating department
Ass et legalizing and validating department
Main obligation of Duyen Hai branch:
The branch’s requirements of ACB system are:
Reserving assets mandated to the branch by ACB head quarter.
Those assets include land and equipments which are invested by the system’s money.
Develop human resource, train employees to improve staff’s performance, generate profits for the bank and better the bank’s image in customers’ mind
Implement communication and report as regulated by SBV and
Implement business plan as specified in ACB’s business objectives.
Improve banking practice and recommend ACB head quarter about better practice in banking business, apply modern technology in daily activities of the branch.
Main businesses of Duyen Hai branch
The Duyen Hai branch actively raises funds in accordance with the regulations set by the State Bank of Vietnam (SBV) and ACB, accepting deposits from the public across short, medium, and long-term maturities Deposits can be made in both domestic and foreign currencies.
The Duyen Hai branch specializes in providing loans to both individual and corporate clients, offering flexible options that include long, medium, and short-term loans tailored to the structure of mobilized funds.
Duyen Hai branch also implements and manages banker acceptance and international payment service based on instructions from State Bank of Viet
Nam and ACB head quarter.
Data collection and methodology
Secondary data refers to information collected by individuals other than the researcher, which can serve various purposes beyond the original intent For example, a student researching economic growth may utilize GDP data from a national statistics bureau for the years 2000-2010 Such data is invaluable in the initial stages of research, particularly when the researcher is unfamiliar with the topic A prime example of secondary data is the literature reviewed in the theoretical background section of a study.
Secondary data is accessible from a variety of sources, which can be categorized into published materials, such as books and journal articles, and electronic resources, including websites and emails According to Saunders, Lewis, and Thornhill, these classifications highlight the diverse avenues for gathering secondary data.
According to 2009, secondary data can be categorized into three types: documentary sources, which include books, reports, newspapers, transcripts, voice recordings, and video recordings; survey-based sources, which involve data collected through surveys; and multiple source data, which combines both documentary and survey-based information Additionally, Ghauri and Gronhaug (2010) further classify secondary data into internal and external sources.
Secondary data play a crucial role in this thesis, sparked by the author's interest in risk management from a teacher's materials A thorough review of books, articles, and academic journals over a month refined the focus to credit risk management in commercial banks The discovery of an article on risk management framework improvements in Vietnamese small commercial banks further fueled the author's desire to explore this topic In Vietnam, banking information disclosure is highly sensitive, necessitating reliance on data from published annual reports, news, and regulatory documents Without secondary data, the realization of this thesis would not have been possible.
Qualitative data refers to non-numerical information that describes the attributes, characteristics, or properties of a phenomenon It emphasizes the quality of aspects that cannot be quantified, focusing on detailed descriptions rather than numerical measures.
This research emphasizes the significance of qualitative data, which encompasses information on current credit risk management practices at the branch level, including regulatory documents and internal controls implemented by the bank Within the scope of this study, qualitative data plays a crucial role in understanding and evaluating these practices effectively.
- Gathering details of the subject bank‟s credit policies: how the policies look like and if they contain fundamental information
- Discovering how credit unit in the transaction office work and whether its operation complies with the policies
- Understanding how well the transaction office is performing based on comparing historical data and figures from year to year
- Detecting the credit employees‟ understanding of and attitudes towards the bank‟s formal policies
In addition to qualitative data, the research also utilizes quantitative data.
Quantitative data refers to information that can be counted or expressed in numerical form, commonly collected through experiments This data is often manipulated and subjected to statistical analysis, making it essential for research Additionally, quantitative data can be visually represented through graphs, histograms, tables, and charts, enhancing its interpretability.
This research utilizes quantitative data sourced primarily from the annual reports of the subject bank, focusing on the figures in the balance sheet and income statements The analysis reveals the branch's performance directly through trend analysis and numerical portions, as well as indirectly by calculating and examining specific financial ratios.
This study aims to evaluate the current risk management practices at an ACB branch by reviewing existing literature on bank credit activities and credit risk management It involves an analysis of the branch's current credit performance and offers recommendations for enhancing the bank's practices.
Banking activities are complex and a significant focus for researchers globally, particularly concerning the challenges within the banking sector This thesis reviews various studies centered on credit risk, the primary aim of the research It will explore definitions of a bank, the nature of credit activities, the concept of credit risk, and the tools available to manage it effectively.
Evaluating the performance of a bank's credit risk management is crucial, necessitating a thorough assessment of their effectiveness This thesis will empirically analyze two key areas: the current state of credit activities at the Duyen Hai branch and the conclusions drawn from this analysis regarding the bank's operational efficiency.
This thesis presents recommendations aimed at enhancing ACB's credit risk management practices It identifies weaknesses within the branch's current operations and proposes solutions aligned with the bank's existing strategic direction.
LITERATURE REVIEW…………………………………………… 8 2.1 Bank and credit activities
Credit risk
According to David (1997), bank risk is characterized as a decrease in a firm's value resulting from shifts in the business environment Banks frequently face various events in their daily operations that can adversely impact their performance.
In 1997, four primary risks were identified that banks typically face: market risk, credit risk, operational risk, and performance risk Additionally, regulatory risk and environmental risk also significantly impact the daily operations of banks.
(Raghavan 2003) In an article written by Anh Tuan (2012) on [newspaper name], the writer indicated 3 main risks present in Vietnamese banking sector.
Credit risk, liquidity risk, and regulatory risk are critical factors in financial management Kaminsky and Reinhart (1999) emphasized that credit risk represents the most significant risk element in the portfolios of most banks, highlighting the necessity for effective risk management strategies.
Credit risk is defined formally as “the potential that a bank borrower or counterparty will fail to meet its obligations in accordance with agreed term”
(Basel 1999a) In Vietnamese regulation, credit risk is defined in Decree
The 493/2005/QĐ NHNN highlights the potential losses in banking activities due to customers' unwillingness or inability to fulfill their obligations Credit risk is crucial for banks, as they depend on credit activities for profitability To achieve significant profits, banks must issue substantial loans, which inherently involves a higher level of credit risk A key consideration for bankers is determining the appropriate level of return relative to the associated risk (Ciby 2005).
Basing on the source of risk, Raghavan (2003) believed that credit risk comprises of transaction risk and portfolio risk
Transaction risk, also known as firm credit risk, pertains to the shortcomings in banks' processes for evaluating and approving loans for individual customers Raghavan further categorizes transaction risk into three key components.
- Selection risk: selection risk is problems in the banks’ process of selecting appropriate project to finance
- Collateral risk: collateral risk originates from the failure to collateralize a loan or to put legal claim on collateral assets.
Operational risk in banking encompasses challenges in managing loans and lending activities, particularly issues related to internal credit ratings and the handling of bad debts These difficulties highlight the critical nature of operational risk within financial institutions.
Portfolio risk is risk arises from the performance of banks’ portfolio of loan This type of credit risk contains 2 components:
- Intrinsic risk: credit loss may develop from the sectorial and operating characteristics of the borrowers
- Concentration risk: when bank’s loan portfolio is too concentrated in a group of borrowers, an economic sector or a geographical region, it is said to have concentration risk.
Modern banks extend credit not only to domestic borrowers but also to foreign customers, which introduces additional risks related to loans involving counterparties from different regions around the world.
(2005), this practice exposes banks to settlement risk, sovereign risk and foreign exchange risk.
- Settlement risk is explained by Ciby (2005) as sometimes banks’ counterparties failed to deliver their payment at the settlement date Horcher
Settlement risk, particularly prevalent in foreign exchange trading, arises from the asynchronous nature of payments across various money centers, often involving substantial volumes A notable instance of this risk occurred in 1974 with the German bank Bankhaus Herstatt, which was suspended, leaving significant funds stranded in its global accounts and preventing the transfer of money to its counterparties.
Sovereign risk is the potential threat posed by worsening foreign economic, social, and political conditions on international transactions It encompasses the likelihood that governments may assert their power to nullify debts owed to external lenders or alter the flow of profits, interest, and capital in response to economic or political pressures.
Foreign exchange risk poses a significant threat to banks, as fluctuations in exchange rates can lead to a decline in the value of their credit in various currencies For instance, when an importing company borrows USD from Asian Commercial Bank (ACB) to settle payments with an American exporter, any adverse movement in the exchange rate by the loan's expiration could negatively impact the bank's financial position.
Credit risk primarily arises from traditional bank lending activities, but it also stems from holding bonds and other securities According to Basel (1999a), loans represent the most significant source of credit risk for most banks However, credit risk can also emerge from various activities within a bank, including both the banking and trading books, as well as on and off the balance sheet Financial instruments such as acceptances, interbank transactions, financial futures, and guarantees contribute to this risk Therefore, it is crucial to identify all potential credit exposures, as this understanding serves as a foundational element for further analysis in this work.
According to Saunders and Cornett (2006), the major types of bank loans are commercial and industrial (C&I), real estate, consumer and others.
Commercial and industrial loans are available for durations ranging from a few weeks to several years, catering to businesses' working capital and credit requirements In contrast, real estate loans, primarily mortgage loans, vary significantly in size, cost, and maturity compared to C&I loans Additionally, consumer loans encompass personal and auto loans, while other loans involve a diverse array of borrowers, including banks and non-bank financial institutions.
Credit risk is the predominant risk in bank loans Over the decades the credit quality of many banks’ lending has attracted a large amount of attention.
The shift in focus from bank loans to less developed countries and commercial real estate loans towards auto loans and credit cards highlights a significant trend in American lending practices Given that default risk is inherent in all types of loans (Saunders and Cornett 2006), effective management of individual loans and loan portfolios is essential for banks to mitigate credit risk effectively.
Nonperforming loans, as defined by Hennie (2003), are loans that do not generate income, typically classified as such when principal or interest payments are overdue by 90 days or more The nonperforming loan portfolio serves as a crucial indicator of a bank's credit risk exposure and the quality of its lending decisions.
Credit risk is a significant concern for banks not only in lending but also in their traditional investment in debt securities, such as bonds, notes, and certificates of deposit These instruments, issued by governments, quasi-government bodies, or large corporations, are designed to raise capital, with issuers typically promising regular coupon payments and the return of principal at maturity However, there is always a risk of default by the issuer, which can lead to losses in interest or principal for banks, potentially causing substantial financial damage.
Credit risk management
2.3.1 Role of credit risk management
The series of banking scandals at the end of the 20th century prompted the G-10 countries to establish the Basel Committee, aimed at safeguarding global banking systems In a consultative paper released in 1999, the committee identified that major banking issues stemmed from lax credit standards for borrowers and counterparties, as well as inadequate portfolio risk management.
Credit risk has consistently been a leading factor in bank failures, with over 80 percent of a bank's balance sheet tied to this critical aspect of risk management This highlights the essential role that effective credit risk management plays in the overall banking risk management strategy and the long-term success of financial institutions By implementing robust credit risk management practices, banks can mitigate credit value at risk while optimizing their return on investment.
2.3.2 Principles of credit risk management
Principles of credit risk management are clearly elucidated by Basel
(1999) to have the following contents: a Establishing an appropriate credit risk environment
Establish an appropriate credit risk environment, as indicated by Basel
In 1999, three key issues emerged regarding credit risk management Firstly, the board of directors is tasked with developing a credit risk strategy that reflects the bank's risk tolerance and expected profitability Secondly, senior management is responsible for implementing this strategy and establishing comprehensive policies and procedures for identifying, measuring, monitoring, and controlling credit risk across all banking activities Lastly, effective credit risk management hinges on accurately identifying the inherent credit risks associated with all bank products, which can be straightforward for traditional offerings but more complex for modern financial instruments like asset securitization and credit derivatives.
A robust credit granting process, as outlined by Basel (1999), requires a clear and well-defined set of criteria These criteria should identify the bank's target market and encompass a comprehensive understanding of the borrower, the purpose of the loan, its structure, and the source of repayment.
Banks rely on borrower information and credit purposes to inform their internal credit rating processes, which are essential for assessing creditworthiness In addition to establishing credit-granting criteria, it is crucial for banks to implement credit exposure limits for both individual and related counterparties, based on the outcomes of the credit rating process A structured approach to approving and renewing credit is necessary, ensuring that all participants in the credit granting process work in harmony To prevent subjective issues, banks must adhere to written guidelines for transaction evaluation and approval Furthermore, the credit granting process should explicitly define the terms of credit extensions to mitigate potential misuse.
Effective credit administration is crucial for a bank's success, as it helps establish and uphold a secure credit environment, thereby protecting the institution from potential lending pitfalls (Wesley, 1993).
Banks must prioritize the effectiveness of their credit administration operations to mitigate credit risk It is essential for banks to implement robust methodologies for evaluating credit risk associated with individual borrowers and their overall credit portfolios Additionally, continuous credit risk monitoring is crucial in the risk management process, requiring banks to closely monitor borrowers' financial conditions and ensure adherence to covenants.
To maintain strong credit quality, banks must ensure sufficient cash flows and collateral adequacy while actively monitoring potential problem credits This proactive approach enables banks to effectively manage credit risk and respond promptly to any future changes in the financial landscape.
Banks should regularly conduct independent reviews of their credit risk management processes to ensure the effectiveness of their credit granting procedures and appropriate levels of credit exposure The findings of these reviews, presented to the board of directors and senior management, aim to identify any irregularities in the bank's credit profile If any discrepancies are discovered, bank managers must promptly implement corrective measures to maintain the overall soundness of operations.
Effective credit risk management in banks requires not only the banks' own efforts but also active oversight from supervisors These supervisors are responsible for regularly assessing the effectiveness of banks' credit risk management practices.
Supervisors assess the effectiveness of banks' credit risk management and collaborate with management to resolve identified issues Additionally, they play a crucial role in regulating credit concentration, ensuring that banks diversify their funds across a broad spectrum of borrowers rather than concentrating on a limited number.
Measuring risk is a vital aspect of the risk management process, particularly in quantifying credit risk, which can be challenging due to insufficient historical data, diverse borrowers, and varying default causes (Fabozzi, 2006) Over the past two decades, advancements in technology have significantly transformed credit risk measurement This article will outline the fundamentals of credit risk assessment and explore three primary methods used in bank credit risk measurement: credit rating, credit scoring, and credit modeling.
A credit rating evaluates the creditworthiness of individuals or corporations by predicting the likelihood of default, relying on their financial history, current assets, and liabilities.
According to the Federal Reserve (1998), credit risk ratings encompass not only the likelihood and severity of potential losses but also the fluctuations in loss over time In their credit risk assessments, banks consider both internal and external credit ratings.
The internal credit ratings of banks, as suggested by Jacobson, Linde and
According to Roszbach (2003), the risk properties of a bank's loan portfolio are crucial for understanding credit decisions, as they are closely linked to the probability of default (Treacy and Carey, 1998) An effective internal risk rating system is essential for accurately assessing and differentiating credit risk across loans and other exposures (Basel, 1999a) The significance of internal credit ratings is amplified by the Basel II accord (Basel, 2006), which emphasizes the need for robust internal systems for risk assessment and capital buffer calculations, ultimately driving banks towards enhanced risk management practices.
EMPIRICAL FINDINGS
Performance of credit activities at Asian Commercial Bank (ACB)
Duyen Hai branch in the last 3 years
3.1.1 Overview of credit activities at the branch
Table 1 Credit performance at Duyen Hai branch
2009 2010 2011 value growth value growth value growth credit balance 1247 45.10% 1743.9 39.80% 2056 17.91% term structure value percentage value percentage value percentage short term 714 57.30% 877 50.34% 1067 51.90% medium term 208 16.70% 397 22.79% 549 26.73% long term 324 26.00% 468 26.87% 439 21.36% currency structure
VND 1030 82.60% 1314 75.40% 1518 73.84% foreign currency 217 17.40% 429 24.60% 537 26.16% borrowers structure individual 458 36.79% 651 37.37% 716 34.87%
The table provides a comprehensive overview of the credit situation at the Duyen Hai branch over the past three years, highlighting a consistent annual increase in the total loans granted Notably, in 2009, the credit balance reached 714 billion.
VND Three years later, this number grew to 2056 billion VND Although total credit has been increasing, its growth rate shows a reverse trend Especially in
In 2011, the value of loans granted increased by only 17.91% compared to the previous year, reflecting the State Bank of Vietnam's regulatory efforts to stabilize the economy.
The branch's credit structure reveals a significant focus on short-term loans, with 2009 marking the peak year where approximately 57% of the total loan value was attributed to short-term lending.
In the previous year, short-term loans at the branch amounted to 1,067 billion VND, representing 51.9% of the total loan portfolio This distribution is typical for most commercial banks, as longer loan durations increase the risks associated with lending.
Focusing on short term loan help the bank fasten their capital turnover and reduce their risk exposure.
The table also gives us the information on the currency structure of branch’s loan Accordingly, majority of their loan is in Vietnam dong: 82% in
2009, 75% in 2010 and 74% in 2011 The fraction of foreign currency credit is smaller, however it is increasing.
Borrower structure of the branch’s loan shows that private companies occupied the largest part of the branch’s loan Till the end of 2011, more than
In 2011, the private sector accounted for 1,200 billion VND, representing 61% of the branch's total loans Individual borrowers were the second largest group, receiving loans that made up 34.87% of the total loan amount In contrast, state-owned enterprises received a minimal portion, with only 3.23% of the branch's credit balance allocated to them.
The branch's credit portfolio highlights the banking industry's role in fostering economic growth by providing essential capital Guided by a strategic vision from ACB headquarters, the branch has successfully built a solid and diverse customer base.
In recent years, the ACB system has successfully expanded its credit offerings, reflecting a significant demand for capital among borrowers in Haiphong Statistics indicate a clear upward trend in credit, highlighting the growing financial needs of the local market.
What is important here is what the quality of the branch’s credit portfolio is The next part provides an answer for this question.
3.1.2Credit risk at ACB Duyen Hai branch
In order to evaluate how well the branch is doing with its credit portfolio, we should take a look at some indicator of credit risk:
Table 2: credit risk at Duyen Hai branch credit risk value percentage value Percentage value percentage credit balance 1247.16 100.00% 1743.9 100.00% 2056.18 100.00% loan loss provision
The analysis of the branch's loan performance reveals that bad debt constitutes a minimal portion of total loans, consistently remaining below 1% over the past three years Notably, 2011 recorded the highest bad debt percentage at 0.89%, equating to 18.32 billion VND in overdue loans, surpassing the combined bad debt of the previous two years This figure was alarmingly close to the branch's 2011 loan loss provision of 19.72 billion VND The spike in bad debt during this year can be attributed to stringent banking policies and heightened interest rate pressures.
2011 created difficulties for many of branch’s borrowers to make punctual payment.
Now we should examine credit risk of the branch by having a closer look at the composition of the branch’s credit.
Figure 1: Composition of branch's credit in 2009
Figure 2: Composition of branch's credit in 2010
Figure 3: Composition of branch's credit in 2011
The charts illustrate the concentration of credit balances across various industries within the branch's portfolio, revealing minimal changes over the past three years While the branch offers loans to a diverse range of sectors, there is a notable focus on commerce, services, and manufacturing In 2011, loans to commercial borrowers exceeded those to other industries for the first time, making up 36% of the branch's total credit balance, closely followed by the service industry, which accounts for 34%.
In 2011, the credit balance for loans to manufacturing and processing companies maintained a stable third position, with percentages of 18%, 16%, and 15% for the years 2009, 2010, and 2011, respectively These figures indicate that the sector is relatively secure concerning concentration risk, as it does not overly concentrate on any single industry but instead allocates capital across a diversified customer base.
Table 3: Quality structure of branch's credit
The majority of the branch's granted credit remains in a safe zone, indicating that borrowers are effectively repaying their loans, with standard loans comprising approximately 99% of the total Only a small fraction of the credit balance consists of problematic debts, where borrowers have been late in their payments However, there has been a notable increase in the proportion of risky debts, such as substandard and doubtful debts, compared to 2010 Despite this rise, these debts still represent a negligible portion of the overall approved credit, suggesting that the increase is not due to the bank's credit risk management but rather issues specific to individual borrowers.
Credit risk management at Asian Commercial Bank (ACB) Duyen
Supervisory regulation is crucial for minimizing risks and ensuring effective risk management practices in the banking sector In Vietnam, the State Bank of Vietnam (SBV) is responsible for overseeing these regulations However, Vietnam is not a member of the Basel Committee on Banking Supervision and has yet to implement the Basel Accords.
The State Bank of Vietnam (SBV) is actively implementing policies aimed at aligning domestic commercial banks with international standards These initiatives are formalized through various official documents, including laws, circulars, directives, and decisions.
The State Bank of Vietnam (SBV) plays a crucial role in overseeing various aspects of the financial sector, particularly in credit activities Its regulations encompass lending provisions for credit institutions, prudential ratio requirements for banks, and guidelines for debt classification and credit loss provisions These documents are frequently updated to adapt to changing market and economic conditions, ensuring a secure lending environment While numerous regulations exist, this thesis will focus on examining the most fundamental ones.
On 31.12.2001, the Vietnamese central bank issued the Decision No.
1627/2001/QD-NHNN on the provision lending by credit institutions to clients.
Following it were two amendments 127/2005QD-NHNN on 03.02.2005 and
783/2005/NHNN on 31.05.2010 (The investigated bank 2009) Recently,
Circular No 13/2010/TT-NHNN dated 20.05.2010 also revised the regulations on lending limits The fundamental aim of these legislations is to govern
Vietnamese dong and foreign currency loans extended by credit institutions to their clients Among all the articles, several points should really get a remark on
The maximum amount of a loan which is maintained within a fixed period as agreed in the credit contract between a credit institution and the client
The interest on overdue debts is established by the credit institution in compliance with SBV regulations, ensuring it is clearly stated in the credit contract Notably, this rate must not exceed 150% of the interest rate applicable throughout the loan term.
The State Bank of Vietnam (SBV) requires credit institutions to establish a clear loan approval process that delineates personal or joint responsibilities during loan assessment and approval stages It is essential for loan officers to evaluate the feasibility and effectiveness of investment projects or business plans, as well as the borrower’s ability to repay the loan.
Fundamentally, the credit institution decides the limits on its own, based on the borrowing requirements of clients and their ability to repay and on its available capital sources
Outstanding loans to a single client must not exceed 15% of the credit institution's equity, unless the loans are funded by capital sources provided by the Government, organizations, or individuals.
When a client's capital needs exceed 15% of a credit institution's equity, or if they seek to raise funds from multiple sources, credit institutions can participate in a syndicated loan as per State Bank regulations.
15% limit, the loan has to be approved by the Prime Minister
A credit institution must ensure that the total outstanding debts and guarantees for a single client do not exceed 25% of its own capital, maintaining compliance with specified percentage limits on total debts.
A credit institution's total outstanding debts to a group of related clients should not surpass 50% of its own capital, while the debt owed to any single client must be limited to 15% of its capital.
A credit institution is prohibited from granting unsecured or preferential loans to enterprises under its control, adhering to specific limits: the total outstanding debts and guarantees for any single enterprise must not exceed 10% of the institution's capital, while for a group of such enterprises, the limit is set at 20% Additionally, loans to affiliated financial leasing companies are restricted to 5% of the credit institution's capital.
To ensure responsible lending practices, credit institutions must refrain from granting loans to certain entities, including their affiliated securities trading companies, members of the board of management or inspection committee, the general director and deputy general director, and staff involved in loan evaluation and approval Additionally, loans cannot be extended to the immediate family members of these key personnel, such as parents, spouses, or children However, credit institutions have the discretion to determine the inclusion of this final group in their lending policies.
Decision 1627 and Circular 13 clearly outline the lending limits and essential provisions for a robust loan process, serving as valuable guidelines for credit providers to enhance the reliability of their lending decisions.
Regulations on classification of debts and loss provision
The rules concerning debt classification and loan loss reserve are covered by the Decision No 493/2005/QD-NHNN dated 22.04.2005 and Decision No.
On April 25, 2007, the decision 18/2007/QD-NHNN was issued, granting banks a three-year period to establish a credit classification system aligned with international financial reporting standards This systematic categorization of debts and loans facilitates banks in accurately calculating non-performing loans and determining loss provisions.
In 2009, Decision 493 provided a clear definition of debt, encompassing various forms of indebtedness such as loans, advances, overdrafts, financial leases, and factoring, among others This broad definition indicates that loans are just one type of debt Debts can be classified in two ways—quantitatively and qualitatively—resulting in five distinct categories of debt.
Category 1: standard (“debts that the borrower is able to pay the principal and interest for in a full and timely manner”)
Category 2: specially mentioned (overdue debts < 90 days or “debts that the borrower is able to pay the principal and interest for in full but there exists a sign of decreasing payment ability”)
RECOMMENDATION FOR CREDIT RISK MANAGEMENT IN
Orientation of overall operation at Duyen Hai branch
In 2011, the domestic economy faced a downturn following the global crisis of 2007-2008, characterized by high inflation and government responses that negatively impacted various industries Rising regulatory interest rates increased funding costs for commercial banks and project financing for borrowers, while financial instability in developed countries posed challenges for domestic firms, particularly in exports and exchange rates However, early 2012 showed promising signs of economic recovery, with inflation being partially controlled, setting the stage for adjustments in bank interest rates by the SBC As interbank rates declined, the cost of funds for commercial banks decreased, leading to an anticipated rise in borrowing by individuals and organizations.
With a clear understanding of the market dynamics, the ACB Duyen Hai branch can anticipate numerous opportunities in the credit business To capitalize on these prospects effectively, the branch should focus on specific objectives related to its credit activities.
Orientation for credit activity at Duyen Hai branch
Duyen Hai branch should maintain its strong performance in the Haiphong region by broadening its credit activities to encompass a diverse range of customers across various industries, particularly targeting private SMEs and individual businesses These sectors are vital for economic growth and are likely to benefit from favorable policies from authorities With its abundant opportunities, Haiphong remains a promising market for expansion.
Currently, local administration is encouraging investment in Haiphong; hence future demand for banking products will be very high.
To effectively manage credit risk, branch managers must not only focus on expanding credit activity but also regularly revise the credit structure, assess customers, measure risks, and implement provisions for loan loss This proactive approach is essential to ensure minimal credit exposure and reduce potential losses.
In the near future, diversifying products and expanding the customer base will be a key focus for the branch Implementing information and communication technology will streamline the lending process and enhance customer satisfaction.
To maximize profitability, lending products must be diversified across various customer types and industries.
Education and training are essential for enhancing employees' product knowledge, marketing skills, and risk management awareness in their daily activities.
Recommendation for credit risk management at Asian Commercial
Commercial Bank Duyen Hai branch
4.3.1 Promote professional employee training and utilize rationally human resource
In the banking industry, human resources play a crucial role in determining business outcomes, particularly due to the inherent risks involved Employees must possess strong professional knowledge and impeccable ethics Therefore, the ACB Duyen Hai branch prioritizes effective hiring practices, clear division of labor, comprehensive training and education, and fair employee treatment policies.
The branch must exercise caution in its hiring practices by establishing clear and standardized criteria for capable employees in the credit department It is essential to communicate these standards effectively to recruiting officers Additionally, the branch should foster an environment that enables employees to leverage their strengths, ultimately benefiting the organization.
To maximize human resource efficiency, it is essential for the branch to scientifically divide labor, clearly defining each individual's rights and obligations This approach will prevent conflicts of interest, such as one employee serving simultaneously as both appraiser and decision maker.
In addition, employee training practice needs to be encouraged New employees have to be trained to get acquainted to lending procedure of ACB.
Former employees training is also implemented to keep employees update to changes in external and internal environment.
Last but not least, it is necessary to have a worthy employee treatment.
High salary will motivate people to work effectively and attract capable people to work for the branch.
Dispersing credit risk includes diversifying credit portfolio, joint loan and credit insurance.
Diversifying credit portfolio: the best way to reduce risk is diversify it.
Banks will distribute their funds across a diverse range of customers and industries, ensuring that no single borrower, group of borrowers, or specific type of business is prioritized for credit This diversified approach inherently reduces credit risk by minimizing the correlation between industries.
Joint investments between Duyen Hai branch and other banks are essential when borrowers require funds exceeding the branch's lending capacity, as financial regulations limit loans to 15% of the bank's equity In such scenarios, the branch collaborates with other banks to distribute the loan, ensuring that each institution manages a portion of the financing This approach mitigates potential losses for Duyen Hai branch, reducing the risk to a manageable level.
Credit insurance: this practice is still be a new concept in Vietnam and
Vietnamese commercial banks and borrowers are still unfamiliar with credit insurance, which functions similarly to traditional insurance by covering the value of loans through insurers that manage multiple loans across various banks In the event of a loan loss, the insurer compensates the banks for their losses Unfortunately, credit insurance remains underdeveloped in Vietnam One of the pioneers in this field is BIDV Insurance Company (BIC), which has initiated credit insurance-like products through partnerships with BIDV and TMT car manufacturing company to insure loans for purchasing TMT vehicles However, this represents only a small aspect of the overall credit insurance landscape, given the limited variety of loan types currently covered.
Vietnamese commercial banks are now offers is large In future, credit insurance will be very developed and will be a helpful tools in credit management of
4.3.3 Concentrating on borrower information collecting practice
When banks evaluate potential borrowers, they must consider the borrower's identity, the purpose of the loan, and their ability to repay on time and in full If borrowers cannot satisfactorily address these concerns, the risk of financial loss for the banks increases Consequently, banks must adopt effective methods to gather reliable information beyond the borrower's claims For instance, the Duyen Hai branch can leverage resources like the Credit Information Center (CIC), established by the State Bank of Vietnam, which provides vital data on individuals with existing credit relationships with registered banks in the country.
Another method is to get the information from other banks Borrowers has probably been in credit contract with other banks before come to ACB Duyen
Accessing information from other banks allows the branch to better understand borrowers' situations and their commitment to meeting obligations In addition to external data, the branch must focus on enhancing its staff's information-gathering practices Establishing a standardized manual for credit officers is essential for investigating borrowers effectively This information collection should not be a one-time task but rather a continuous responsibility for credit employees, as staying updated on former borrowers' circumstances enables the branch to respond appropriately to any negative incidents.
Conclusion
Vietnamese economy in the recent years has been posing many problems.
Negative impacts of inflation stagnated operation of many domestic companies.
One such impact is the increase of input cost for manufacturing industries Many
Vietnamese companies still depends on foreign sources for manufacturing input.
When inflation flies, operating cost for those companies also rise tremendously.
The government's implementation of regulations to stabilize the economy, such as limiting credit and increasing interest rates, has significantly impacted various industries In 2011, many sectors experienced slowdowns due to these policies, leading to challenges for domestic companies, which represent the majority of commercial banks' borrowers This situation has created threats to the Vietnamese banking industry, as banks face the dual challenge of maintaining profitability while managing credit risk amid low credit limits and deteriorating economic conditions that affect borrowers' repayment capabilities.
Despite facing many difficulties like the rest of their industry, Asian
The Duyen Hai branch of Commercial Bank (ACB) has achieved notable success in its credit activities, maintaining a positive credit growth rate within the limits set by the State Bank of Vietnam The branch has effectively controlled credit risk, as evidenced by its credit portfolio structure, which demonstrates a commitment to minimizing both the likelihood and impact of credit losses This success can be attributed to the rigorous application of credit risk management practices and thorough borrower rating assessments.
Limitation
This study primarily emphasizes the qualitative analysis of credit risk management within Asian Commercial Banks, contrasting with the extensive research on quantitative approaches that estimate risks in bank credit portfolios While quantitative models offer numerical insights crucial for analysis and comparison, their complexity and the significant time and effort required for implementation limit their inclusion in this thesis.
This thesis focuses on a specific branch of Asian Commercial Bank, highlighting the significance of its findings for that branch While the analysis presents a favorable overview of credit activities and credit risk management at this branch, it may not fully represent the performance of the entire banking system.
Maybe the success of the branch also depends on other externalities that do not appear in other branches and do not explain the success of the whole system.
This thesis primarily focuses on the inherent credit risk associated with the credit activities of commercial banks, but it does not provide a comprehensive analysis of credit risk due to time and resource constraints.
As the banking sector evolves, the advancement of services and products introduces substantial credit risk for banks, highlighting the importance of considering all aspects of banking activities.
Recommendation for further study
For further study, quantitative analysis should be taken in to consideration.
Due to time and scope constraints, this thesis does not explore credit risk management through advanced quantitative methods, including complex financial formulas, models, and metrics Future research should address this gap for a more comprehensive understanding of credit risk management.
This research highlights that existing studies and literature primarily concentrate on credit risk management within lending activities, overlooking the significant exposure to credit risk in other services such as international payments and financing programs Expanding research on credit risk management in these areas is crucial for enhancing banks' understanding and mitigation strategies.
The adoption of credit derivatives for managing credit risk is an emerging concept in various regions worldwide Analyzing successful cases of credit derivatives can provide valuable insights, while understanding the reasons behind the failures of others can enhance future applications.
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Table 10: Corporate borrower rating criteria
Financial criteria Non-financial criteria
- Ability of customers in meeting their ability with cash inflow
- Ability to meet short-term liabilities
- Ability to meet current capital needs of customers
Managerial capacity and internal environment
- Biography of the owner/ accountant
- Relationship of managers with the authorities
- Manager’s sensitivity activeness to change in market
- Business vision and objectives in short run
- Credit history in last 12 months
- Times of restructuring in last 12 months
- Structured loan/total loan ratio
- History of off-balance sheet activities
- Customer’s information disclosure in the last 12 months
- The length of time that customers have credit relationship with ACB
- Credit situation in other bank
- Degree of reliance on natural factors
- Impact of policies in foreign market
- Average growth rate in last 3 years
- Average growth rate of after tax income in last 3 years
- Number of years in operation
- Potential for growth of business
Table 11: Corporate borrower rating scale
High potential, good managing practice, efficient operation, positive prospect growth, good will
ACB set first priority for this category Borrowers rated AAA can have access to abundant and low-cost capital and are treated preferably in term of fees and collateral.
AA Organization that operate efficiently, have optimistic prospect and show goodwill with their liabilities.
Capital needs of these borrowers are treated preferably in term of interest rate, fees and collateral 85-
A Organization operating efficiently, having good financial position and goodwill to repay.
ACB satisfy capital needs of this category, especially medium term need.
Operating efficiently, having potential prospect but showing weakness in financial management
ACB still extend credit to organization in this category, however preferable treatment is not exercised or exercised restrictively.
BB Low operating efficiency, having potential growth but showing weakness in financial management
ACB restrain extensive credit to this category Loans to these organization focus on short term loan and should be pledged strictly.
B Low and fluctuating efficiency, limited managerial control over operation
ACB limits credit to this category and prioritizes collecting face value of debt to organization degraded to this category.
Low efficiency, weak financial and managerial capacity, having debt currently unpaid.
ACB restricts granting credit to this category Restructuring solution can be applied if only the borrowers have feasible plan to improve.
CC Low efficiency, weak financial and managerial capacity, low repaying capacity.
ACB forbids credit relationship with organization falling in this category.
Restructuring solution can be applied if only the borrowers have feasible plan to improve.
C Low efficiency, weak financial and managerial capacity, no repaying capacity.
ACB forbids credit relationship with organization in this category Loan should be reclaimed at all cost, even premature collateral liquidation Bel ow 35
D Long-lasting loss, negative financial position, having overdue debt.
ACB forbids credit relationship with organization in this category Loan should be reclaimed at all cost, even premature collateral liquidation