A Banker's Nightmare & How Technology Can Help

A loan to a large corporate turning sour is indeed a nightmarish scenario for a bank and if multiple banks are involved in lending to the corporate, the implications can reverberate across the entire banking eco system.

The lending cycle in a bank typically follows an economic cycle; when interest rates are low, or economies witness negative policy rates, banks are under immense pressure to expand their loan books, at times even at the expense of credit quality. In 2014, when oil prices were upwards of 100 dollars a barrel, the US shale industry demonstrated positive momentum. Output from shale developers scaled up. But then, the downturn in the Chinese economy and the consequent fall in oil demand led to the collapse in oil prices. A wave of defaults/bankruptcy filings of shale drillers and servicing companies continued and banks are in the hock for a few billion dollars of losses.

In South Asia's largest economy, a Multi-National Bank lost close to USD 1 billion in 2015, due to impaired loans to large corporates in the commodity sector. State owned banks are scrambling to recover about a billion dollars from a now defunct airline. Stressed loans across sectors is estimated at more than 10 percent of total credit. Have so many loans gone bad suddenly? Not really. It required a tough talking Central Bank Governor to stop the practice of "extend and pretend", when some banks simply kept extending the due date, "restructured" them, lent more to cover interest payment.

Lending carries the inherent risk of a default. The 2008-09 financial crisis which some analysts ascribe to perceived liberal ratings provided by rating agencies, strengthens the case for banks for carrying out their own due diligence prior to extending credit facilities.

When it comes to large corporate lending, technology plays a pivotal role in strengthening bank corporate loan origination processes and subsequent credit monitoring.

Bringing Technology Into The Picture
Having decided to lend and drawn down the facilities, are banks at the mercy of their customers? Where an intentional/wilful default occurs through diversion of bank funds to purposes other than what they were intended for and where there is suspicion of corporate malfeasance, banks rely upon the legal system and at times on investigative authorities, to recover their loans. But more often, the intention to repay is there, but not the means. A loan can turn sour for a multitude of reasons.

Banks have a treasure trove of data in their core systems, on operative accounts being frequently overdrawn, delays though not outright defaults in meeting obligations on interest, loan installment, letters of credit, and increasing frequency of ad hoc requests for facilities. Loan covenant monitoring systems/modules can ensure capture of quarterly financials, which result in identification of accounts with deteriorating financials. Such customers/accounts can be flagged by the system to the bank's senior management for more focused attention. Early warning flagged accounts draw attention from senior management and where appropriate, make sure that the bank is not providing further drawing of lines/facilities to bail out other banks and cap the facilities to the current level of drawings if permitted under the loan contract.

Ultimately the bank may decide to reduce interest rates, extend the loan tenor while insisting on additional collateral from the borrower and/or fresh equity from shareholders, simultaneously providing for loan loss reserves, rather than face the prospect of default, bankruptcy, mothballing of the plants and liquidation of the borrower.

The Relationship Manager (RM) is the bank's first line of defense for corporate accounts, and is expected to have an ear to the ground. Customer management platforms can help RMs to capture visit reports to red flagged corporate customers which can reach the CEO instantly. RMs can electronically prepare early warning/problem loan reports with detailed analysis and prognosis.

A CEO dashboard can provide insights to all such potentially stressed customers/accounts. If the trend is noticed across the industry, then it might be prudent to review the exposure to all the corporate borrowers in the industry. Investment in such technology tools can help save the bank from taking a bigger hit on its capital.

Exiting on time/recovering from a non-performing loan has a bigger potential to positively impact a bank's quarterly results than the interest earned in the normal course of a loan. It is no wonder that when a new CEO takes charge at a bank, it is not unusual that the early port of call is to the stressed assets department!