Manage Financial Institutions - Credit analytical viewpoint

Transcription

1 Manage Financial Institutions - Credit analytical viewpoint Shinhwa Chou, Vice President Relationship Management, Financial Institutions Group March 16, 2005 opyright 2004 Citigroup Inc. CITIGROUP and the Umbrella Device are trademarks and service marks f Citicorp or its affiliates and are used and registered throughout the world.

2 Agenda Analysis of banks & insurance companies From quantitative point of view From qualitative point of view Industry development trend & focus Strategies & Tactics to become a better FI Business Development Cost Management Risk Management Capital Adequacy Management

3 How to Analyze Banks

4 CAMEL Approach Capital Adequacy Asset Quality Management Earnings Power Liquidity

5 Capital Adequacy BIS Ratio: Shareholders commitment in absorbing loss from risk assets Tier capital - LT investment without consolidation Credit risk assets + Capital charge on market risk X 12.5 > 10% Tier 1= common stocks, perpetual non-accumulated preferred shares/sub-debts, legal reserves,..etc. Tier 2= Perpetual accumulated preferred shares/sub-debts, convertible bonds, bad debt reserves, 45% of re-valuation of LT capital gains, sub-debt > 5 yrs etc. Tier 3= ST sub-debt, and non perpetual preferred shares

6 Capital Adequacy Regulation requirement: BIS 8%, semi-annual release Basel II Will be effective on 2006/12/31 3-pillar concept In addition to Credit Risk, Market Risk & Operational Risk are taken into consideration

7 Capital Adequacy As of 2004/06, Taiwan Banking Sector BIS was 10.01% 12.0% 11.5% 11.17% 11.0% 10.63% 10.58% 10.5% 10.75% 10.0% 10.01% 10.09% 10.40% 9.5% 9.0% 8.5% 8.0% 2004/ / / / / / /12

8 Asset Quality NPL Ratio: The potential credit cost in risk asset taking Broad Based (Narrow Based) NPL < 2.5% Net Loans Non Performing Loan (NPL) International Standard (Broad Based): 90 days PDO (past due obligation) MoF Standard (Narrow Based): 180 days PDO

9 Asset Quality How to read NPL Ratio on financial statements 80 ays 90 Days 90D NPL Ratio: 1.46% 2.25%

10 Asset Quality NPL Ratio is improving since Industry average is 5.29% as of % 11.75% 11.0% 10.0% 11.26% 10.83% 10.17% 180 Day 90 Day 9.0% 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 8.60% 8.04% 8.59% 7.48% 7.97% 7.48% 7.12% 5.68% 6.12%6.11% 7.87% 6.08% 5.62% 5.72% 5.29% 4.89% 4.33% 4.14% 4.52% 3.54% 3.31% 3.80% 2001/ / / / / / /12

11 Asset Quality Starting from 2004/03, over 50% banks 90D NPL ratio is less than 5% 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 2003/ / / / / / /12 NPL <2.5% 2.5%<NPL<5% 5%<NPL<7.5% 7.5%<NPL<10% NPL>10%

12 Asset Quality Coverage Ratio: Loss estimation from bad loans Loan Loss Reserve > 60% Non Performing Loan Reserve adequacy is subject to: LTV Ratio: Loan / Collateral Value Evaluation of collateral Appraisal base Update frequency

13 Asset Quality Coverage Ratio 0 ays Coverage Ratio: 45.78% 39.67%

14 Asset Quality Coverage ratio 2003 Industry Average 23.22% 2004 Industry Average 30.34% 8% % % 76% 26.53% 57.14% <40% 40-60% >60% <40% 40-60% >60%

15 Earnings Power ROA & ROE: Collective return per $1 risk asset taking and $1 shareholder money ROA > 1% ROE > 15% ~ 20% A business indicator for assessment of: Revenue Stream: diversified, sustainable Cost Control: credit cost, funding cost, operational cost Business Strategy: pricing strategy, loan growth plan Financing Strategy: capital structure, Tier 1 capital surplus

16 ROA & ROE 2004 Taiwan banking s avg. ROA:0.61% & avg. ROE:15.71% 48% 38% 28% 18% 8% -2% -3.0% -2.0% -1.0% 0.0% 1.0% 2.0% 3.0% -12%

17 Earnings Power Efficiency: cost to income ratio (SG&M / EBIT) < 40% 2004 Taiwan banking s avg % 16.67% 38.10% 11.90% 33.33% <40% 40-80% % >120%

18 Liquidity Loan to Deposit Ratio: Self-funding capability Total Net Loans 85% Total Customer Deposits Too high or too low, for assessment of: Efficiency of fund s flow utilization Adequacy of liquidity strain buffer Funding source consideration Diversified funding: retail or wholesale Sustainable deposit base Alternative funding source

19 Liquidity 2004 Taiwan banking s avg. L/D ratio was 81.94% 120% 110% 100% 90% 80% 70% 60% 50% 40%

20 Management - Qualitative point of view Risk Architecture Management Reputation Franchise

21 Risk Architecture Credit Risk - level of sophistication of a bank s credit committee - management team s credit awareness - roles and responsibilities of credit management - systems and infrastructures to detect and manage the risk - the evaluation model to reflect its customer s credit soundness - the risk profile and the composition of its customers Market Risk - analyze whether the bank take appropriate positions and protect against losses that result from market fluctuations, both price and liquidity risk - we evaluate a bank s risk identification and quantifying capabilities such as market-to-market system, its risk management skills, the limit setting, approval controls, regular reporting, ongoing validation Track Record of Credit Management -The track record reflects how a bank has managed its credit exposure and gives us an idea of where this bank stands in the industry -Also, we can further evaluate whether a better bank can continue its strength

22 Management Reputation Integrity Strategic Vision of Business Execution and Leadership the bank s level of compliance with regulations accounting methods and information disclosure factors that may influence management integrity ( which include the background and composition of the board members, whether the bank has close relationship with local conglomerate, the operation and financial soundness of the conglomerate, the level of professionalism of the team ) Strategic vision is one of the most important factors in shaping a business and anchoring the direction to which a business is heading. A sound management team must demonstrate that they know where they are today, where they used to be in the past, and where they want to be in the future. A sound management also needs to have a clear vision on how the business will be developed and the vision must be successfully implemented in each function areas, business units, product development, risk management, etc. Whether the management team could establish the link between the management of human assets and the bank s vision and strategies Whether the bank can realize its competitive advantage through leadership and human resource management all the way from recruitment, selection, training, retention, performance management and evaluation, Whether the bank could aligning the management system with business goals and the organizational structures.

23 Franchise Scale Diversification of Business Product Innovation Financial Flexibility number of branches, asset size, number of customers, deposit and loan portfolio, power and niche of the franchise and whether the value can be replaceable or replicated by other bank. The bank has right people and mechanism to design, sell, and provide after-sales service for new products. The bank can leverage on other entities to provide new products to clients. Whether the bank has incentives to motivate the product innovation. Whether the new products suitable and appropriate for this bank s client. Whether the product innovation fit in the bank s vision and will benefit the bank in the long term. Evaluate a bank s historical financials, the capital structure, the financial instruments it has been using to raise capital. Evaluate how diversified the instruments are, and how successful each fund-raising was. Whether a bank is closely followed by foreign brokers and investment companies, including the percentage of foreign FIs holding, how is it rated by international rating agencies.

24 Quantitative and Qualitative Assessment Solvency Liquidity Key Successful Factors Operating Efficiency Investment Return

25 Solvency Subtitle should be placed here (copy/paste this text box onto any slide) Headline Text is 20 Bullet is 18 The The minimum minimum standard standard of of financial financial health health for for Sub-bullet life life insurance; insurance; is 14 it it is is presented presented by by the the excess excess» Footnote of of is an 10. an insurer s insurer s assets assets over over its its liabilities. liabilities. Taiwanese Taiwanese insurers insurers tend tend to to have have lower lower solvency solvency ratio ratio due due to to higher higher required required reserves reserves by by local local regulation. regulation. Industry Industry average average is is 5.59% 5.59% in in Solvency Solvency Ratio Ratio Net Worth = > 12% 12% Life Technical Reserves

26 Liquidity Subtitle should be placed here (copy/paste this text box onto any slide) Headline Text is 20 Bullet is 18 Insurer s Insurer s ability ability to to meet meet claims claims payments payments to to the the policyholders Sub-bullet is 14 policyholders when when they they are are due. due.» Footnote is 10. Liquidity Liquidity Ratio Ratio Liquid Assets = > 70% 70% Technical Reserves Liquid Assets = Cash, deposits, and marketable securities

27 Operating Efficiency Claims Ratio Subtitle should be placed here (copy/paste this text box onto any slide) Headline Text is 20 Bullet is 18 A rough rough indicator indicator to to evaluate evaluate insurers insurers underwriting underwriting capability capability in Sub-bullet is 14 in pricing pricing policy policy annual annual premium premium sufficient» Footnote is 10. sufficient to to buffer buffer annual annual claims claims payments, payments, based based on on policy policy actuarial actuarial estimation estimation and and policy policy renewal renewal rate rate maintenance. maintenance. Claims Claims Ratio Ratio Claims Incurred = < % Net Written Premium Net written premium = Gross written premium gross written premium ceded to re-insurers

28 Operating Efficiency Expense Ratio Subtitle should be placed here (copy/paste this text box onto any slide) Headline Text is 20 Bullet is 18 Expense Expense ratio ratio is is to to assess assess insurers insurers expenses expenses structure structure and and adequacy adequacy of of the the economy economy Sub-bullet of is of 14 scale for new policy sale per year scale for new policy» sale Footnote per is year 10. Expense Expense Ratio Ratio Expenses = < % Net Written Premium Expenses include general and administration expenses, commission expenses

29 Investment Return Subtitle should be placed here (copy/paste this text box onto any slide) Headline Text is 20 Bullet is 18 Investment Investment return return measures measures insurers insurers asset asset management management capability capability in in delivering delivering Sub-bullet claims claims is 14and and bonus bonus payments payments to to policyholders» policyholders Footnote is 10. as as promised promised in in policy policy guarantee guarantee rates rates Investment Investment Return Return Interest Income + Trading Gain + Rental Income = >= >= Qualified Investment Assets Averaged Policy Reserve Rate

30 Investment Return con t Investment Subtitle should Asset Allocation be placed here (copy/paste this text box onto any slide) Government Government bonds bonds and and foreign foreign investments investments (mostly (mostly in in securities) securities) are are the the two two largest largest asset asset classes classes in in portfolio portfolio Headline Text is 20 Bullet is 18 Sub-bullet is 14» Footnote is 10.

31 Key Successful Factors Subtitle should be placed here (copy/paste this text box onto any slide) Brand Brand Reputation Reputation Headline Text is 20 Bullet is 18 Product Product Innovation Innovation Sub-bullet is 14» Footnote is 10. The Added value of the brand name image Product design to meet economic environment, and policyholders needs Distribution Distribution Channel Channel Investment Investment // Risk Risk Management Management The effectiveness of marketing channels and sales force to deliver new business growth Ability to match the investment return to the promised rate of return on the policies u/w Operating Operating Efficiency Efficiency The efficiency of the business operation structure to weather changes in business environment

32 Industry Development Trend and Focus

33 Financial Product Life Cycle Subtitle should be placed here (copy/paste this text box onto any slide) As As a matured economy, investment products correspond to to social social needs needs Headline Text is 20 Bullet is 18 Age Sub-bullet is 14» Footnote is 10. Deposit Loan Investment Asset Management - Savings - Student loan - Mutual Fund - Checking - Credit Card - Securities --- etc. - Mortgage - Structured note -Auto Loan - Personal Loan --- etc. --- etc. - Insurance. --- etc.

34 Optimize Shareholders Value Subtitle should be placed here (copy/paste this text box onto any slide) Headline Text is 20 Bullet is 18 Sub-bullet is 14 Deliver Promising Profitability» Footnote is 10. Maximize Market Capitalization EPS Full Full P/E P/E & P/B P/B Multiple

35 Enhance Franchise Value Subtitle should be placed here (copy/paste this text box onto any slide) Headline Text is 20 Market Share Bullet is 18 Credit Rating Dominance Sub-bullet is 14 Upgrade / Expansion» Footnote is 10. Corporate Governance Acquisition // Consolidation Organic Growth Risk Mgmt Credit Credit risk risk Market Market risk risk Operational Operational risk risk Internal Control Independent Independent directors directors & & supervisors supervisors Compliance Compliance adherence adherence Info Info Disclosure Transparency Periodic Periodic biz update to biz update to the the public public Financial Financial reporting in reporting in line line with int l standard with int l l standard

36 Strategies & Tactics to Become a Better FI

37 A Good Financial Institution Reflect shareholders interest with: Growth potential Growth sustainability Approach Business development Risk management Cost management Capital adequacy management Performance Time v.s. Performance Time Performance v.s. Performance

38 Business Development Revenue Diversification By Products By Customers By Channels By Geography Loan Loan // Deposit Deposit Individual Individual Direct Direct Sales Sales Urban Urban Investments Investments Big Big corporate corporate Branch Branch Island-wide Island-wide FX FX // Derivatives Derivatives FI FI Third Third Party Party Regional Regional Custody Custody SME SME Telemarketing Telemarketing Global Global Cash Cash Management Management Public Public sector sector DM DM Trade Trade Finance Finance

39 Business Development Revenue Sustainability Create customer loyalty (active card usage, low mortgage attrition, high insurance retention, less frequent redemption, better x-sell..etc) Develop appropriate product mix (annuity revenue v.s. deal revenue) Build cross-sale to same customer base ( finance v.s. investment v.s. risk hedging) Build franchise coverage/value Revenue Growth New customer / Selective Target Market New product / Innovation New market development / penetration Organic growth vs Inorganic growth (M&A e.g.)

40 Business Development To achieve sustainable revenue growth: Matrix organization Interest Income Product Family - Loan - Inv. Banking / CM - FX/Derivatives - Funding/Gapping - Custody - Cash/Trade Business Segment APCB SME GRB FI Prof. Mkt Fee Income Trading Income

41 Risk Management Risk Categories Credit Risk Market Risk Other Major Risks Lending Direct Contingent Counterparty Pre-settlement Settlement Issuer Clearing Price Interest Rates Stock /Commodity Currency Volatility in Options Liquidity Funding Trading Underwriting Country Political Transfer/Convertibility Fiduciary Documentatio Disclosure Legal & Regulator Franchise Fraud Processing System

42 Credit Risk Management Asset quality management to achieve the desired Risk /Return Dynamically diversify credit portfolio by: Business segment» Corporate banking, Consumer banking, Investment banking, Credit card, etc. Industry» Industry limit determined by industry life cycle Customer base Product» Trade finance, Securities investment, Bilateral/syndication loan, Mortgage, Credit card, Vehicle loan Collateral» Property / Mortgage, PDC, Deposit, Standby LC, Equity, Chattel, etc. Geography / Sovereign Obligor Risk Rating

43 Credit Risk Management Use risk rating methodology to reflect risk level of the credit portfolio Scoring method Forced ranking method Develop early warning / classification process to proactively monitor the credit quality Establish control limit within portfolio via segment, product Establish effective / efficient remedy management process A required factor for BIS ratio determination under the new Basel Capital Accord

44 Market Risk Management Liquidity Management Diversified funding sources Deposit / interbank borrowing / capital market committed v.s. un-committed short-term v.s. long-term Appropriate liquid asset level Dynamic asset/liability management : tenor, interest rate, currency match Stress test Rate Risk Management VAR / Loss Limit / Sensitivity Limit Stop loss discipline Underwriting / Syndication Risk

45 Operation Risk Management Operational performance Infrastructure System implementation and employee training Routinely update infrastructure and maintain its reliability and productivity Process efficiency Standard procedure enhances efficiency Interfaces for optimum access Back-up plan Business continuity test Compliance risk Internal control Regulations

46 Cost Management Marketing & Distribution Measure the effectiveness & efficiency Marketing : DM / Advertisement Distribution :» Branch» ATM or other automation platforms» Internet» Telemarketing» Direct sales / RM / AO» 3rd party

47 Cost Management Processing Regionalization / Centralization / Outsourcing Automation / Straight-through Processing (STP) ATM, E-trade, on-line insurance, phone-banking Back-end automation / rationalization re-engineering quality projects

48 Capital Adequacy Risk assets requires capital reserve, and capital comes with cost. Therefore, earning power of asset is determined by : ROA ROE x BIS Calculate min ROA based on required ROE (IRR), and BIS Below-than-hurdle ROA will lead to BIS lower than minimum requirement Control BIS to improve ROE without increasing asset pricing

49 Strategies to Improve BIS Financial solutions Balance Sheet Assets Asset Securitization - Credit Card - Cash Card - Mortgage Loan - Corporate Loan Fixed Assets (Real Estate) - Sell & Lease back - CMBS / REIT NPL disposal - Sell down to AMCs - Securitization Liabilities Capital Tier Deposit - FRN / FRCD Bond / Debenture - ST Sub-Debt III - LT Sub-Debt II - Convertible Bond II Equities Capital Tier Perpetual accumulated Preferred share II Hybrid capital note I Common Stock I (ADR/GRD)

50 Eliminate Market / operational risk Eliminate Market / operational risk Operation outsourcing Insurance Hedging Strategies to Improve BIS Business model adjustment Earnings power improvement Cross-sale Price to risk Product breadth BIS = NW Risk Assets Credit portfolio optimization Credit risk mitigation Risk assets reallocation Risk weight transparency Credit risk rating model

51 Q & A

52 Copyright Citigroup,Inc. All rights reserved. CITIGROUP and the Umbrella Device are trademarks and service marks of Citicorp or its affiliates and are used and registered throughout the world.