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Bangladesh's banking industry comprises 58 banks that include six state-owned commercial banks (SoCBs), three specialised banks (SBs), nine foreign commercial banks (FCBs) and 40 private commercial banks (PCBs). The banking remains one of the weakest sectors because of downgraded asset quality, poor capitalisation, and very fragile internal control - particularly in the state-owned ones.
Total deposit of six SoCBs amounts to Tk 959.39 billion which is about 28.3 per cent of the total market size. The SoCBs have been losing gradually their market share to the PCBs over the years, but they are still the dominant players because of the government's ownership, support, and patronisation.
Non-performing loans or NPLs in 58 banks have piled up to Tk 885.89 billion, i.e., 10 per cent of the outstanding loan portfolio. They are predominantly concentrated among the SoCBs and SBs with the rate of bad loans to total loans standing at 29.8 per cent and 22 per cent respectively. The ratio for PCBs and FCBs are 4.9 per cent and 7.3 per cent respectively. Moreover, 80 per cent of NPLs are in the bad loan category and not easily recoverable.
Although the banking sector as a whole has been able to maintain its Capital to Risk (Weighted) Assets Ratio (CRAR) above the minimum regulatory requirement, the aggregate CRAR stands at around 10.11 per cent. It is revealed from a stress test report that in case of increase in NPLs by 3.0 per cent, 9.0 per cent and 15 per cent that would severely dent the performance of 4, 28 and 34 banks respectively.
Moreover, if just the three largest borrowers of each bank were to default, 26 banks would become non-compliant with regard to maintaining their minimum regulatory CRAR. This highlights the vulnerability of the banking sector as a whole to moderate shock, poor risk management culture, and high concentration of risk due to uneven distribution of loan exposures.
Defaulted loans have badly affected the capital base of the SoCBs. From 2009 onwards to 2018, the government has allocated Tk 145.05 billion fund in aggregate for re-capitalisation of the banks in public sector.
A recent report reveals that the five SoCBs during the first half of this year have displayed lukewarm performance in the recovery drive of their NPLs. The recovery percentage as against respective targets, as reported, hovers around 19 per cent on the higher end and marginally above 3.0 per cent at the lower end of the spectrum.
Meanwhile, the size of written-off loans, since the introduction of the policy in 2003, surged to the staggering figure of around Tk 490 billion.
Some of the factors which are found largely responsible for the accelerated growth of NPLs in the lending portfolios of the banks and FIs are as follows:
i. Unusual/unexplained delays in receiving the stock report and required financial statements.
ii. Poor inventory turnover/unsold stock got piled up.
iii. Bloated amount of receivables in the borrower's books of A/C.
iv. Tendency of the borrower to make switchover to other banks for inflated amount of facility or for extended period of facility with no apparent justification.
v. Tendency to overreact to competition (succumb to unholy competition by extending irrational amount of loan not at par with their present cash flow or future projection just to retain the customer.
vi. Imposition of higher-end interest rate without taking into consideration the ability of the borrower to bear the interest burden of the debt obligation.
vii. Abrupt fall in business turnover compared to the previous year.
viii. Significant mismatch between volume of sales made as declared with that of the amount of transaction made during the period under review.
ix. In case of continuous credit (revolving by nature), no swinging in the account is noticeable and the banker has the propensity to be complacent with the servicing of interest component only by the borrower.
x. Adverse change in the borrower's capital structure/leverage ratio.
xi. Unexpected/unexplained change in deposit balance with the bank.
xii. Significant deviation in actual sales/cash flow from the projection given at the time of sanction.
xiii. Borrower's reliance on non-recurring sources of fund to make loan repayment.
xiv. Banker's wilful avoidance to measure the actual cash flow(s) from the borrowers' business undertakings - especially in the large-ticket corporate segment/group of companies even though they have multi-bank credit lines.
xv. Reliance on the reappraisal of assets to make the customer's net worth palatable.
xvi. Inadequate/improper assessment of the character, capacity and capital strength of the borrower.
xvii. Lending on the basis of face value of the borrower (name lending).
xviii. Political and otherwise interference in sanctioning loans.
xix. Enhancement of the facility without exercising required level of due diligence.
xx. Ignorance about the competitive market structure and non-evaluation of the capacity of the borrower to withstand, and the existing and emerging threat of competition.
xxi. Assessment of working capital requirement of the borrower/borrowing unit not made in the right perspective resulted in under/over-financing - paving way for over/under-financing.
xxii. Inadequate/excessive sanction of the limit irrespective of the economic size of the unit.
xxiii. Some project loans turn out to be bad due to lack of knowledge/competence on the part of the promoters. If the projects are not managed well, the loans turn out to be bad.
xxiv. Enhancement of facility limit without taking into consideration the business prospect and wrong prediction or projections regarding the cash flows or prospect of additional revenue earnings in proportion to expansion of the project get the borrowing concern unusually burdened up with debt.
xxv. Another scenario in Bangladesh is the dominance of wilful defaulters who often keep their loans UC. They do it by way of filing writ petition with High Court. This practice is widespread and randomly exercised by the habitual defaulters. By taking advantage of the loopholes in the legal system, they have the propensity to avail loans from other banks.
xxvi. Lack of inter-bank coordination as well as cooperation with financial institution in exchanging information regarding list of defaulters.
xxvii. Wrong structuring of loan facilities.
An important element of sound credit risk management is to make empirical study as to what could potentially go wrong with individual credit/group exposure and its ensuing impact on overall credit portfolio of the bank in terms of size and nature of credit, if conditions/environments, in which borrower conducts business, take any adverse turn. Banks should always work out the likely impact of the stressed assets on its capital adequacy requirement and provisioning. Any deliberate attempt to keep the accounts unclassified for avoiding additional requirement of specific provisioning to display inflated profit will eventually weaken the balance sheet of the bank. It should be kept in mind that provisioning acts as a cushion for capital - thereby ring-fencing bank's balance sheet. So, it is of imperative need to make fair disclosure of the asset quality and keep provisioning with meticulous compliance for the sake of upholding the interest of the bank.
Banking is the business of deliberate acceptance of risk within the purview of risk appetite on different frontiers for profit. But risk-taking should necessarily be based on informed decision taken by exercising due diligence in right perspective. In the whole process, there should be an attempt to ensure risk-adjusted rate of return towards optimisation of profitability.
The senior management of the bank should have clear understanding of the type and magnitude of risk inherent in all kinds of banking business transactions, which will enable them to take pre-emptive measures with professional due diligence. In the banking sector fraud, forgery and fraudulent transactions in the category of residual risks have increased manifold .
Banks' internal control system should be reinforced on the back of good corporate governance to establish better control and supervision over different core operational areas of the bank. Good corporate governance demands professional coherence and cohesiveness between the board and the management having delineated roles to play with the common objective to navigate the institution in the right direction towards sustainable growth trajectory.
Mohammad Masoom is Additional Managing Director, Midland Bank Limited.