Dutch Bangla Bank Ltd 04. CREDIT DEPARTMENT 4.

1 Introduction: Presently banking is a very dynamic sector in our country. Its impact in our country economy is quite vast. Banking business is little bit different from other business. It mainly deals with organization with month and credit actively. Banks are profit oriented organization. ! bank invests its fund in ways to earn more profit and most of its income is derived from loans and advances. Bank makes loans and advances to traders" businessmen" industrialists and many other persons against security of some cautious policy and sound lending principle in the matter of lending.

4.2 Definition of Credit: ! transaction in cash or kind with an obligation to repay at some specified time in the future is termed generally as credit or advance. Bank credit can be categorized according to maturity" method of disbursement and repayment" origin" purpose and security. ! combination of these aspects may be used for the purpose of a categorization. 4.3 Selection of the orro!er: #redit is the confidence of the lender on the ability and willingness of the borrower to repay the debt as per schedule of repayment. Before allowing credit facility a banker should be satisfied that the applicant qualifies the following five essentials" which may be termed as $#s. %amely 4.3.1. Ch"r"cter # Borrowers Integrity" honesty" intention to repay the loan money" commitment" credit record" dependability etc. 4.3.2. C"$"cit% & Borrower&s business ability" cash flow" Debt service coverage" #'()" )ales" Business e*perience" +echnical knowledge" !ge" particularly profitability. 4.3.3. C"$it"l & ,inancial strength to cover a business risk" )take in business" )olvency" retention of earning" ability to infuse more money etc

Bangladesh Institute of Bank -anagement

./

Dutch Bangla Bank Ltd 4.3.4. Condition & It is general business condition. 0conomic trends" Industry (rowth" competitive 1 regulatory environments" working conditions etc. 4.3.'. Coll"ter"l & Borrower&s ability to produce additional securities. !sset quality" type" Location" +itle" ,orced sales value etc. 'ther most important requirements in selecting a borrower will includes the following2 3. 4. 8. .. $. 9. :. Past tract record Bank 5ecord 6+ransaction 5ecords7 #redit 5eport Interview -arket Information ,inancial statement 6Balance )heet. Income statement etc.7 and 5eport of #IB

4.4 Princi$le( of Sound )endin*: Banks make loans and advances to traders" businessmen" agriculturists and industrialists. In either case" the banks run the risk of default in repayment. +herefore" banks have to follow a cautious policy and sound lending principles in the matter of lending. +raditionally" banks have been following three cardinal principles of lending viz. safety" liquidity and profitability and certain other principles. 4.4.1. S"fet%2 ! bank lends what it receives from the public as deposits. )afety depends upon +he security offered by the borrower" and +he repaying capacity and willingness of the debtor to repay the loan with interest. )o the banker should ensure that the security offered is adequate and readily realizable and the borrower is a person of integrity" good character and reputation. 4.4.

Bangladesh Institute of Bank -anagement

$;

Dutch Bangla Bank Ltd 2. )i+uidit%2 Liquidity refers to the ability of an asset to convert into cash without loss within short time. +he liabilities of a bank are repayable on demand or at a short notice. +o meet the demand of the depositors in time" the bank should keep its funds in liquid state. !s such a bank should confine its lending to short term against marketable securities.

4.4.3. Profit",ilit%2 Banks earn profit to pay interest to depositors" declare dividend to shareholders" and meet establishment charges and other e*penses. )o profit is an essential consideration. +he main source of profit comes from the difference between the interest received on loans and those paid on deposit. ! bank must employ its funds in such a way that they will bring adequate return for the bank. 4.4. 4. Pur$o(e: Before sanctioning loans a banker should enquire about the purpose for which it is needed. Loans for undesirable activities such as speculation and hoarding should be discouraged.

4.4.'. Di-er(ific"tion2 +he banker should not lend a ma<or portion of his loan able funds to any single borrower or to an industry or to one particular region. !n adverse change in the economy of these may affect the entire business. +he bank must advance moderate sums to a large number of customers spread over a wide area and belonging to different industries. 4.4... Securit%: It has been the practice of banks not to lend as far as possible e*cept against security. 4.4./. N"tion"l Intere(t: DBBL also considers national aspect of any pro<ect while financing. +hey take almost care so that the pro<ect cannot be detrimental to the society as well as to the nation. 4.' Mode( of ch"r*in* (ecurit%: Bangladesh Institute of Bank -anagement $3

Dutch Bangla Bank Ltd #reating a charge means making it available as a cover for an advance. +he method of charging should be legal" perfect and complete. +he important methods of charging a security are the following2 3. Lien. 4. Pledge. 8. -ortgage. .. !ssignment. $. =ypothecation. 4.'.1. )ien: Lien is the right of a creditor to retain the properties belonging to the debtor until the debt due to him is repaid. Lien gives a person only a right to retain the possession of the goods and not the power to sell them. ! banker&s lien is a general lien which tantamount to an implied pledge. It confers upon the banker the right to sell the securities after serving reasonable notice to the borrower. 4.'.2. Pled*e: )ection 3:4 of contract !ct" 3>:4" defines a pledge as" the ?bailment of goods as security for payment of a debt or performance of a promise.@ ,rom the above definition we observe that" i7 ii7 iii7 a pledge occurs when goods are delivered for getting advance" the goods pledged will be returned to the owner on repayment of the debt" the goods serve as security for the debt.

+he person who transfers the goods is called pledger and to whom it is transferred is called the pledgee. Delivery of goods is essential to complete a pledge. +he delivery may be physical or symbolic. Physical delivery refers to physical transfer of goods from a pledger to the pledgee. )ymbolic delivery requires no actual delivery of goods. But the possession of goods must be transferred to a pledge. 4.'.3. Mort*"*e

Bangladesh Institute of Bank -anagement

$4

Dutch Bangla Bank Ltd ! mortgage is a method of creating charge on immovable properties like land and building. )ection $> of the +ransfer of property !ct" 3>>4" defines a mortgage as followsA B! mortgage is the transfer of an interest in specific immovable property for the purpose of securing the payment of money advanced or to be advanced by way of loan" an e*isting or future debt" or the performance of an engagement which may give rise to a pecuniary liability.@ ! -ortgage can be affected only on immovable property. 4.'.4. A((i*n0ent: !ssignment means transfer of any e*isting or future right" property or debt by one person to another person. +he person who assigns the property is called assignor and the person to whom it is transferred is called assignee. 4.'.'. 1%$othec"tion: +he mortgage of movable property for securing loan is called =ypothecation. In other words" in case of hypothecation" a charge over movable properties like goods" raw materials" and goods in progress is created. =ypothecation is a charge against property for an amount of debt where neither ownership nor possession is passed to the creditor. (oods under hypothecation remains in the possession of the borrower" e*tra care has to be e*ercised to see that the bank&s security is complete" adequate" safe and available at times when required. 4... T%$e( of )o"n( "nd Ad-"nce(: DBBL" -irpur Branch offers following types of loans and advances like other commercial banks of Bangladesh. +hese are2 #ash #redit 'verdraft Loan Loan against +rust 5eceipt 6L+57 Pro<ect LoanC +erm Loan Dorking #apital Loan =ouse Building Loan 6(eneral 1 )taff7 Bangladesh Institute of Bank -anagement $8

Dutch Bangla Bank Ltd Lease ,inancing )mall )hop ,inance )cheme #ar Loan 6only for employees7

4./. Det"il of (o0e i0$ort"nt credit f"cilitie( of the r"nch h"( ,een *i-en ,elo!: 4./.1. C"(h Credit: )o far I have observed in this desk" a cash credit is an arrangement by which the customer is allowed to borrow the money up to a certain limit. +his is a permanent arrangement and the customers need not to draw the sanctioned amount of money at a time. +he borrower can draw the money as and when repaired. +he borrower can put back any surplus amount" which he may be affected frequently. Interest is changed only to the amount withdrawn and not the whole amount sanctioned. #ash credit arrangement is usually divided into two ways2 #ash #redit pledge #ash #redit =ypothecation

4./.1.1. C"(h Credit Pled*e: In case of cash credit pledge" the possession of the goods belongs to bank and ownership of the goods belongs to the borrower and bank takes the possession of the goods as primary security. +he goods stored in go down under lock and key and it is under direct supervision of the bank. If the borrower wants to sell any portion of the pledged goods needs the bank permission with returning the value of the loan amount. It is therefore regarded as the most secured type of advance. 4./.1.2. C"(h Credit 1%$othec"tion: In case of B=ypothecation@" possession of goods is not transferred to the bank and therefore" such an advance is not better than a clean loan" ad such an advance can thus only be granted to a person with full integrity" where the bank has full confidence on the

Bangladesh Institute of Bank -anagement

$.

Dutch Bangla Bank Ltd client. #ash credit in the@ =ypothecation@ is normally accompanied with mortgage of immovable properties. +he partyC borrower possesses the lock and key of the go down. 4./.2. 2-erdr"ft: +he 'verdraft is always allowed on a current aCc operated upon by checks. +he customer may be allowed a certain limit up to which he can overdraw within a stipulated period of time. In an overdraft" aCc withdrawals and deposits can make by any number of times within the limit and prescribed period. Interest is calculated and charged only on the actual debit balances on daily product basis. 2-erdr"ft i( of three 3ind(: 'verdraft I +emporary 'verdraft 6+'D7 4./.2.1. Te0$or"r% 2-erdr"ft: +'D is allowed to honor an important check of a valued client without any prior arrangement. !s this facility is allowed for a very short period" it is called temporary 'verdraft. Esually DBBL" -irpur Branch does not practice this type of overdraft. 4./.2.2. Coll"ter"li4ed 2-erdr"ft: )ometimes overdrafts are allowed against Land" Building etc. is called #ollateralized overdraft. It is granted in very special case to contractor and suppliers for carrying on construction work and supply orders and to businessmen for e*pansion of their business. #'D is allowed to the borrower on the basis of the under following security2 )upply 'rder Dork 'rder I #ollateralized 'verdraft 6#'D7 I )ecured 'verdraft 6)'D7

-irpur branch does not maintain these two types of overdraft.

Bangladesh Institute of Bank -anagement

$$

Dutch Bangla Bank Ltd 4./.2.3. Secured 2-erdr"ft: Dhen overdrafts are allowed against financial obligation" they are called secured overdraft. 'verdraft is generally granted for smooth running of the client&s business. ,inancial 'bligation includes those papers" which can be easily liquidated like ,D5" B)P" Insurance Policy" )hare Debenture" I#B unit certificate etc. DBBL" -irpur Branch allows /;F of facility against the financial obligation as loan to loan to the borrower" where the remaining 3;F of the instrument is treated as margin if the party fails to pay the interest. Interest on ,D5 against loan is G Interest bearing by ,5D H 8F,5D must be on the same branch. 'ther than ,D5 to interest is 3$F.

4./.3. )o"n "*"in(t Tru(t Recei$t: +his type of facility is allowed to facilitate delivery of goods against retirement of documents of +itle to (oods. +he client is under obligation to pay the outstanding out of the sale proceeds of the goods. 4./.4. Pro5ect )o"n: +he bank provides pro<ect loans to establish the industries. It is the main portion of industrial credit. +hese types of loan are granted for capital e*penditure such as purchase of land" construction of factory building" purchase of new machinery and modernization of plant. 4./.'. 6or3in* C"$it"l )o"n: Loans allowed to the manufacturing units to meet their working capital requirement" irrespective of their size big" medium or large" fall under the category. 4.7. Credit Ri(3 M"n"*e0ent

Bangladesh Institute of Bank -anagement

$9

Dutch Bangla Bank Ltd +he Loans and !dvance )ection at DBBL -irpur Branch is responsible for credit management at branch level. +he #redit Division" #redit !dministration Division and #redit -onitoring and 5ecovery Division at DBBL =ead 'ffice are also the organizational elements of bank&s overall credit management system. Professional and e*perienced credit officers constitute the human resource component of this system at DBBL. +he Bank&s credit management system involves the following main stages2 Credit A((e((0ent: )crutinizing and screening loan applications received from prospective borrowers" and preparing and forwarding credit proposals to the =ead 'ffice for sanction. Credit S"nction8 Docu0ent"tion "nd Di(,ur(e0ent: !pproval of the loan by competent authority and completion of the legal and other documentary formalities with respect to the sanctioned credit facilities and disbursement of credit to the borrowers. Credit Ad0ini(tr"tion: -onitoring and recovery of the disbursed credit.

! qualitative analysis on the credit risk management practices at these stages follows ne*t. 4.7.1. Credit A((e((0ent. +he credit assessment stage involves submission of credit

application by the borrowers and preparation of credit proposal by the credit officers2 4.7.1.1. Su,0i((ion of Credit A$$lic"tion. ! borrower seeking credit facility from the bank is required to submit an application on a bank&s prescribed form. +he prospective borrower has to provide relevant information in the credit application including his personal profile" business performance statistics" pro<ect details and fund requirements. Dhen the loan applicant submits all required data" it becomes easier for the credit officers to assess the feasibility of the credit facility. 4.7.1.2. Pre$"r"tion of Credit Pro$o("l. !fter receiving the credit application from the client the credit officers prepare a credit proposal for sanction by the DBBL =ead 'ffice. +he credit proposal is the outcome of a deliberate assessment on the prospective

Bangladesh Institute of Bank -anagement

$:

Dutch Bangla Bank Ltd borrower and his credit requirements by the credit officers. +he analyses include the following2 Credit&!orthine(( of the orro!er2 +he credit worthiness of the loan

applicantCapplicants is assessed basing on the following2 Personal net worth of individual borrowersC sponsorsC directors of the firm. %et worth of the firm. )tatus of e*isting loan liabilities with this Bank or other banks including #IB credit information. Indu(tr% An"l%(i(: !n overview on the industry in which the client or his

firm is operating including its problems and prospects. +his is more or less a qualitative analysis. u(ine(( An"l%(i(: +his is an assessment of the client&s business or firm which includes the analyses on2 -anagement ability" technical skill and e*pertise. Past balance sheet and income statements. ,inancial ratios. Pro<ected cash flows.

Securit% An"l%(i(: In order to cover the risk of default" the Bank takes

securities against the loans and advances. ! borrower is required to offer some asset as security to the bank for availing the loan. +he main categories of securities that the Bank accepts against the loans are as follows2 )i+uid "nd Ne"r&li+uid A((et(: +his category of securities include2
o o o

Lien on funds. Life insurance policies. )tocks" shares and bonds. $>

Bangladesh Institute of Bank -anagement

Dutch Bangla Bank Ltd Current A((et(: +he current assets accepted as securities include2
o o

=ypothecation of stocks in trade. Pledge of goods.

9i:ed A((et( "nd Re"l E(t"te(: +hese are normally taken as collateral securities and include2
o o o

Land property. Building. Plant and machinery.

+he degree of credit risk e*posure varies from one type of credit product to another. )o the types and values of securities also vary with the different types of credit facilities. +he types of credit facilities offered by DBBL and the securityCcollateral requirements for each type of credit are shown in !ppendi* B. +he values of the securities offered by the prospective borrower are assessed in order to ascertain the coverage against probable risk of default. +he basis of security valuation is the e*pert third party assessment in terms of2 637 current market price and 647 forced sale value. Ri(3 An"l%(i(: +he risk analysis is a summary of the #5( conducted on the client which includes2 ,inancial 5isk 6Leverage" Liquidity" Profitability and Interest #overage7 BusinessCIndustry 5isk 6)ize of Business" !ge of Business" Business 'utlook" Industry (rowth" -arket #ompetition and 0ntryC0*it Barriers7 -anagement 5isk 60*perience" )econd LineC)uccession and +eam Dork7

Bangladesh Institute of Bank -anagement

$/

Dutch Bangla Bank Ltd )ecurity 5isk 6)ecurity #overage" #ollateral #overage and )upportC(uarantee7 5elationship 5isk 6!ccount #onduct" Etilization Limit" #ompliance of #ovenantsC#onditions and Personal Deposits7 ! #redit 5isk (rading )core )heet has been shown in the !ppendi* #. Profit",ilit% An"l%(i(: +his includes an estimation of the Bank&s return from the investment. 4.7.2. Credit S"nction8 Docu0ent"tion "nd Di(,ur(e0ent. +his stage involves

sanctioning of the credit facilities" completion of documentary and legal formalities and disbursement of the credit to the borrower. 4.7.2.1. Credit S"nction. +he duly prepared credit proposal is sent to the DBBL =ead 'ffice for necessary sanction. +he following supporting documents are also sent along with the credit proposal2 #IB credit reports on the loan applicant. !uditedCmanagement certified financial statements of the company. ,inancial spread sheet analysis on last three years. %et worth statement. Details of acceptable securities.

!fter receiving the credit proposal from the branch" the =ead 'ffice #redit Division scrutinizes the proposal and if necessary" asks the branch to make required correctionCmodificationCaddition in light of the procedures prescribed in the credit operation manual. +he #redit Division then places the credit proposal before the appropriate sanctioning authority along with necessary notes and recommendations. +he credit sanctioning authority at DBBL is split into three levels basing on the ceilings of

Bangladesh Institute of Bank -anagement

9;

Dutch Bangla Bank Ltd credit amount2 637 the =ead 'ffice #redit #ommittee" 647 delegated authority to the -anaging Director" and 687 the 0*ecutive #ommittee of the Board of Directors. +he sanctioning authority may then accord sanction to the credit proposal. 4.7.2.2. include2 4.7.2.3. Loan agreement. =ypothecation and mortgage formalities in relation to the primary and collateral securities. Insurance formalities. Docu0ent"tion. !fter the sanction of loan" credit officers of the Branch

complete the documentary and legal formalities in relation to the loan. )uch formalities

Di(,ur(e0ent. Before the disbursement" the client is asked to open an

appropriate loan account with the Branch. !ll the disbursements and repayment installments take place through this account. 4.7.3. Credit Ad0ini(tr"tion. +his stage involves monitoring" control and recovery

of the disbursed credits2 4.7.3.1. Credit Monitorin*. +he credit monitoring and control involves the followings2 -onitoring the loan disbursements or overdrawing by the borrower. -onitoring the repayment installments. Periodic assessment of the valuation of securities and their coverage against the loan amounts outstanding. 5egular visits and inspections to the client&s manufacturingCbusiness facility to ascertain his business performance. 5egular e*amination of the client&s financial statements" stock and inventory reports to ascertain his financial performance and repayment ability.

Bangladesh Institute of Bank -anagement

93

Dutch Bangla Bank Ltd Dhile monitoring" if it is seen that the borrower is unable to make repayment in time" after serving sufficient notice to him the outstanding loan amount may be classified as per the classification regulation. +he same may be rescheduled if the client intends to do so. But rescheduling does not free him from the obligation of repayment. 4.7.3.2. Credit Reco-er%. Loans and advances granted in any form are repayable either on demand or on the e*piry of the validity period" or through agreed installments. Dhen repayment of the loan principal and accrued interests is not made by the borrower in accordance with the repayment terms" the Bank launches recovery efforts. +he defaulted borrower is given adequate notice to ad<ust the loan. Epon failure of the borrower to make repayment" the Bank attempts to recover the loan in the following ways2 If the recovery was allowed by way of pledge of goods" the Bank will realize the value through auctioned sale of the pledged goods. If the hypothecation of stocks in trade was taken as security against the loan" the Bank will attempt to take the stocks under own possession and then dispose off to realize the value. Dhen the loan was allowed against mortgage" legal recourse will be sought by the Bank to sell the property through court decree. 4.; "(i( of Cl"((ific"tion of )o"n(: !ccording to the rules and regulations of Bangladesh Bank" DBBL classifies its overdue loans and advances based on the following notions2 2-erdue: If the borrower does not repay the loan installment within the stipulated time frame then the loan would be known as overdue loan. )i0it 2-erdr"!n: If the borrower crosses the granted limit of loan then it would be known as limit overdrawn. Re+uired P"%0ent: If the required payment is not made within the particular time then it would be classified as required payment.

Bangladesh Institute of Bank -anagement

94

Dutch Bangla Bank Ltd )e*"l Action: If the bank takes any legal action at any time against the borrower for defaulting the loan repayments then it would be known as the loan classified based on legal action. <u"lit"ti-e =ud*0ent: +his is the basis of loan classification upon the borrower performance. If the bank authority observes that the borrower has the chance not to repay the loan amount within the required time frame then they consider it as qualitative <udgment classified loan. 4.10. T%$e( of Cl"((ific"tion of )o"n(: In banking practice there are three types of classified loans. +his classification is prepared based on the non repayment within particular time frame of the loan. +his classification type has been developed by the Bangladesh Bank&s rules and regulations. 4.10.1. Su,(t"nd"rd )o"n: If the borrower does not make any transaction within 9 to 34 months 6neither crediting nor withdrawing money7 in his loan account then it would be known as substandard loan. 4.10.2. Dou,tful )o"n: If the borrower does not make any transaction within 34 to 3> months 6neither crediting nor withdrawing money7 in his loan account then it would be known as doubtful loan. 4.10.3 "d "nd )o(( )o"n: If the borrower does not make any transaction before 3> and above months 6neither crediting nor withdrawing money7 in his loan account then it would be known as bad and loss loan.

4.11. Pro-i(ion: If any borrower fails to pay his borrowed amount the account is classified as substandard" doubtful" and bad depending on the period of non payment. Dhen the amount of classified loan is big the bank cannot operate banking functions very smoothly. !t that time bank required provision and then a portion of net profit is transferred to the provision. +he main function of provision is to overcome bad debt and loss. 'n one side"

Bangladesh Institute of Bank -anagement

98

Dutch Bangla Bank Ltd a big amount of provision is good because the bank can operate banking functions and disburse to the new probable sector in the economy to develop the country. But on the other hand" a big amount of provision is bad because the amount of reserve is small. !s per the B5PD circular of Bangladesh Bank the length of overdue and reserve for provision for classified loans are given below2 St"tu( of Cl"((ific"tion Enclassified )ubstandard Doubtful )en*th of 2-erdue Less than 8 -onths 8 months or more but Less than 9 -onths 9 months or more but Less than 34 -onths Bad and Loss 34 months or more )ource2 #IB 5eport 4.12. "n3 >u"r"ntee: +he contract of (uarantee has been defined under )ection 349 of the #ontract !ct which reads B! #ontract of (uarantee is a contract to perform the promise or discharge the liability of a third person in case of his default@. +he person who gives the guarantee is called the ?surety& or ?guarantor&. +he person in respect of whose default the guarantee is given is called the ?principal debtor&. +he person to whom the guarantee is given is called the ?creditor& or ?beneficiary&. Bank provides a (uarantee to the third party on behalf of his client that if the client is unable to perform his contractual agreement accurately and appropriately then bank will take responsibility. Banks generally provide the following types of guarantee2 4.12.1. id ond: It is issued on behalf of contractor in favor of firmCcompany" giving a sort of guarantee for payment of money where tender has been approved but the contractor is not willing to proceed with it. It is normally issued for a period of 3;;F $;F Re(er-e for Pro-i(ion 3F 4;F

Bangladesh Institute of Bank -anagement

9.

Dutch Bangla Bank Ltd three to si* months against higher cash margin and is terminated on the contractor taking up the contract or on the e*piry of the period. 4.12.2. Perfor0"nce >u"r"ntee: Performance (uarantees have financial implications. If a contract is awarded to the contractor he would be required to furnish a guarantee whereby his e*ecution of contract as per terms and conditions agreed is guaranteed. +his is known as Performance (uarantee. It is given to (overnment offices or state owned #orporations on behalf of contractors undertaking to make payment of penalty in the event of non fulfillment of their performance of contract or supplying goods as per contract. It is also given at the request of foreign correspondents in favor of #orporation etc. in consideration of supplying goods and materials as per terms of tender. Performance (uarantee would require high cash margin in addition to collateral security with power of attorney to collect bills. 4.12.3. Ad-"nce P"%0ent >u"r"ntee: +his type of guarantee is given against work order. If the party takes advance payment from the beneficiary to perform work then bank provides guarantee to the beneficiary on behalf of the party. It is fully secured guarantee.

Bangladesh Institute of Bank -anagement

9$