some solutions to restrain credit risk at bank for investment and development of vietnam vinh phuc branch

In addition, credit risk situation and the situation assessment at thebranch are analyzed to find out remarkable achievements and remainingdifficulties.In the last part, the thesis sugge

I hereby declare that the thesis entitled ‘Some solutions to restrain credit risk at Bank for Investment and Development of Vietnam Vinh Phuc Branch’ is entirely my own work All of data in my thesis is used honestly I

also declare that my researching results have not been previously orconcurrently published in any other works

The Thesis Author

Nguyen Huy Binh

Then the thesis mentions general introduction about BIDV Vinh Phucbranch, overview of business operations of the branch is also provided in thispart In addition, credit risk situation and the situation assessment at thebranch are analyzed to find out remarkable achievements and remainingdifficulties.

In the last part, the thesis suggests some solutions to restrict credit risk atthe branch and proposals to BIDV, State Bank of Vietnam and theGovernment The thesis hopes to offer all banks managers and credit staffuseful tips on preventing and constraining credit risk, and thus make a smallcontribution to improve the business result of Vietnamese banking system

This thesis would not have been possible without the support, the guidanceand the help of several individuals who, in one way or another, contributedand extended their valuable assistance in the preparation and completion ofthis study

First and foremost, I would like to express my utmost gratitude to Ms BuiThi Bich Thuy, my supervisor, for her constructive feedbacks and usefuladvices This thesis would have remained a dream had it not been for herpersistent help

I also would like to offer my sincere thanks to Mr Kim Tuan Anh, director

of enterprise customer relation department He advised me some researchideas and assisted me a lot in collecting necessary data for the study Inaddition, I owe particular thanks to the staff of BIDV Vinh Phuc branchwhose support during my internship period I will never forget

Last but not least, I am very grateful to my beloved parents, my numerousfriends who endured this long process with me and offered me great support,encouragement and love at all times

Agribank: Vietnam Bank for Agriculture and Rural Development

BIDV: Joint Stock Commercial Bank for Investment and Development ofVietnam

CIC: Credit Information Center

EVN: Vietnam Electricity

NPL: Non-performing loans

SBV: State Bank of Vietnam

VNPT: Vietnam Posts and Telecommunications Group

LIST OF TABLES

ABBREVIATION……… iv

LIST OF TABLES……… v

INTRODUCTION 1

CHAPTER 1: LITERATURE REVIEW 4

1.1 OVERVIEW OF COMMERCIAL BANK 4

1.1.1 Definitions 4

1.1.2 Characteristics of commercial banks 5

1.1.3 Functions of commercial banks 6

1.2 OVERVIEW OF BANK CREDIT AND BANKING RISKS 7

1.2.1 Bank credit 7

1.2.1.1 Definitions 7

1.2.1.2 Classification of bank credit 7

1.2.1.3 Roles of bank credit 8

1.2.2 Banking risks 10

1.2.2.1 Definitions and nature of risk 10

1.2.2.2 Definition of banking risks 10

1.2.2.3 Classification of banking risks 10

1.3 CREDIT RISK IN BUSINESS OPERATION OF COMMERCIAL BANKS 13

1.3.1 Definitions 13

1.3.2 Features of credit risk 14

1.3.4.2 Subjective sources 16

1.3.5 Impacts of credit risk 19

1.3.6 Criteria of measuring credit risk 20

CHAPTER 2: CREDIT RISK RESTRAINT SITUATION AT BIDV VINH PHUC BRANCH 22

2.1 GENERAL INTRODUCTION ABOUT BIDV VINH PHUC BRANCH 22

2.1.1 Establishment and development history of BIDV 22

2.1.2 General introduction about BIDV Vinh Phuc branch 23

2.1.3 Organization structure of BIDV Vinh Phuc branch 24

2.2 OVERVIEW OF BUSINESS PERFORMANCE OF BIDV VINH PHUC BRANCH 25

2.2.1 Business result 25

2.2.2 Capital mobilization situation 26

2.2.3 Credit activities situation 27

2.3 SITUATION OF CREDIT RISK AT BIDV VINH PHUC BRANCH………28

2.3.1 Outstanding loans situation 28

2.3.2 Overdue debts situation 29

2.3.3 Non-performing loans situation 33

2.4 ASSESSING THE SITUATION OF RESTRAINING CREDIT RISK AT BIDV VINH PHUC BRANCH 34

2.4.1 Policy of managing credit risk at BIDV Vinh Phuc branch 34

2.4.2 Remarkable achievements 35

2.4.4.2 Subjective reasons 37

CHAPTER 3: SOLUTIONS TO PREVENT AND RESTRAIN CREDIT RISK AT BIDV VINH PHUC BRANCH 39

3.1 ORIENTATION OF DEVELOPING CREDIT ACTIVITIES OF BIDV VINH PHUC BRANCH 39

3.1.1 Orientation of developing credit activities of BIDV 39

3.1.2 Orientation of developing credit activities of BIDV Vinh Phuc branch………39

3.2 SOLUTIONS TO PREVENT AND RESTRAIN CREDIT RISK AT BIDV VINH PHUC BRANCH 40

3.2.1 Improving the quality of appraisal 40

3.2.2 Complying with the credit process tightly 41

3.2.3 Building durable relationships with customers 41

3.2.4 Increasing secured loans 42

3.2.5 Applying risk dispersion solutions 43

3.2.6 Improving the effectiveness of internal control tasks 44

3.2.7 Accomplishing the credit information system 45

3.2.8 Enhancing the qualification of the branch’s credit staff 46

3.3 SOME PROPOSALS 47

3.3.1 Proposals to the Government 47

3.3.2 Proposals to State Bank of Vietnam 48

3.3.3 Proposals to BIDV 49

CONCLUSION 51

REFERENCES 52

1 Rationale of the study

Banking industry is always an indispensable part of every economy Theefficient and effective performance of the banks over time is an index toassess financial stability in any country Thus, when a banking system facesfinancial crises or even collapses, the economy will suffer seriousconsequences such as high unemployment and inflation rate, fall in standard

of living, stagnant industry…The reasons for these crises are various but themain one is credit risk

Credit risk is one of the oldest and most frequent forms of risk faced bybanks The higher the exposure of a bank to credit risk, the higher thetendency of the banks to suffer losses and vice versa In addition, a bankexists not only to accept deposits but also to grant credit facilities so it isinevitably exposed to the risk

In recent years, banks in Vietnam have experienced a lot of difficulties inbusiness activities due to credit risk Therefore, preventing and restricting therisk are extremely urgent and essential tasks However, Vietnamese bankingindustry has not been stable yet because it is in the process of reform andintegration with the banking sector of other countries Moreover, the creditoperation of commercial banks is not very efficient and safe Thus, how tolimit credit risk effectively is always a big challenge for all banks in Vietnam

in general and for Joint Stock Commercial Bank for Investment andDevelopment of Vietnam (BIDV) in particular

From the above reasons, it is, to my mind, an urgent need to curb creditrisk at BIDV Therefore, in my graduation thesis, I decide to choose the topic

‘‘Some solutions to restrain credit risk at Bank for Investment and Development of Vietnam Vinh Phuc branch’’.

2 Aims of the study

The specific aims of the research are clarifying and explaining basictheories of credit risk at commercial banks Besides, the writer analyzes andassesses credit risk situation and reasons of the risk at BIDV Vinh Phucbranch At last, some solutions are proposed to restrict the risk at the branch

3 Methods of the study

In order to perform this study, I firstly choose the method of analyzing,summarizing, listing, comparing, and synthesizing materials and books toform the theoretical background

In the process of writing this paper, I also base myself on the knowledge Ihave learnt from my teachers, my supervisor and from other references

Last but not least, my own experiences gained during the internship period

at BIDV Vinh Phuc branch and in learning English for Finance andAccounting at Academy of Finance provide me favorable conditions tocomplete the study

4 Scope of the study

This paper is intended, as the title suggests: ‘Some solutions to restrain credit risk at Bank for Investment and Development of Vietnam Vinh Phuc Branch’, to mention basic theories of credit risk at commercial bank and

situation, reasons of the risk and solutions to solve this matter at BIDV VinhPhuc branch In addition, all information about business performance ofBIDV Vinh Phuc branch from 2010 to 2012 is also used for the study

5 Organization of the study

The study is divided into three parts:

The first part is the introduction including the rationale, aims, methods,

scope, organization and significance of the study

The second part is the main part of the paper with three chapters:

Chapter I deals with general theories about commercial bank, bank credit,

banking risks and credit risk in business activities of commercial banks

Chapter II refers to the situation of restraining credit risk at BIDV VinhPhuc branch

Chapter III mentions some solutions to restrain credit risk at BIDV VinhPhuc branch

The last part is the conclusion that summarizes the content of the paper and

gives some suggestions for further study

6 Significance

It is hoped that this study, to some extent, will be a helpful referencematerial for banks’ credit staff and bankers to get more solutions to preventand constrain credit risk

CHAPTER 1 LITERATURE REVIEW

1.1 OVERVIEW OF COMMERCIAL BANK

1.1.1 Definitions

Establishment and development history of commercial banks has lasted forhundreds of years and it always associates with the commodity economy.Along with the development of commodity economy, commercial banks haveevolved a lot to become one of the most important financial institutions in aneconomy

The definition of commercial banks is various According to Basel Accord

II, commercial banks are defined as financial institutions that provide a list ofvarious financial services, especially credit, savings, payment services andperform financial functions French Banking Law in 1941 defined commercialbanks as enterprises whose usual functions are accepting money throughdifferent forms and using those resources for their own sake in discount,credit and financial activities In U.S, commercial banks are regarded asmoney-dealing enterprises that specialize in supplying financial services andoperate in financial service industry

In Vietnam, Banking Ordinance issued on May 23rd 1990 by StateCommittee stated: ‘‘commercial banks are money dealing organizationswhose main and usual activities are accepting deposits from customers withthe responsibility of repaying and using them for lending activities orperforming discounts, making as means of payment’’ According to Law onVietnam credit institutions in October 1997 and Law on amending andsupplementing articles of law on Vietnam credit institutions in 2004,

commercial banks are credit institutions permitted to conduct all bankingactivities and other relating business ones

In general, commercial banks are financial institutions whose mainfunction is providing financial services such as accepting deposits, givingbusiness loans and auto loans, mortgage lending, and basic investmentproducts like savings accounts and certificates of deposit

1.1.2 Characteristics of commercial banks

One of the most typical characteristics of commercial banks is running forprofit Commercial banks operate with the objective of making profit so theirfee structure and interest rate are designed with the intention of makingmoney for owners and shareholders

The second significant feature is being owned privately Commercialbanks are owned by private individuals or collections of private individualsacting as shareholders They are regulated by Government institutions andmust follow all applicable laws, but they are not owned by the Government.Private individuals who run commercial banks are responsible for majorpolicy decisions

Another feature is that business operations of commercial banks alwaysface risks Commercial banks are among the major financial intermediaries inthe marketplace and the nature of banking business is always associated withrisks so risks are unavoidable to the banks Consequently, commercial banksare always exposed to the risks that affect both the banks and their customers.Last but not least, commercial banks’ activities depend very much oncustomer’s trust Main functions of commercial banks are mobilizing capitalfrom customers and lending that capital to others so customers always play animportant role in business strategies of every bank Without customers and

their trust, banks can hardly exist and develop Thus, all banks always trytheir best to gain customer’ belief through discount and preference interestrate However, after recent collapses and bankruptcies of some banks,regaining customers’ trust is really a tough challenge for all banks.

1.1.3 Functions of commercial banks

The most important function of commercial banks is credit intermediationfunction Being credit intermediaries, commercial banks become theconnection between customers who have capital deficits and ones with capitalsurpluses This function benefits not only customers but also the banks andthe economy

Another important function of commercial banks is paymentintermediation function In more details, the banks conduct payments bytransferring money from this account to others following their customers’requests The function makes commercial banks become ‘‘a treasurer’’ ofenterprises and individuals because the banks keep customers’ money andcarry out payment for them

Last but not least, commercial banks carry out a function of creatingmoney This is the result of two above functions The creation of moneymeans that after the process of lending and transferring money of commercialbanks, a new amount of deposit which is much more than the initial one iscreated Therefore, performing this function, commercial banks can create ahuge amount of money which is multiple larger than the money issued bycentral bank

1.2 OVERVIEW OF BANK CREDIT AND BANKING RISKS

1.2.1 Bank credit

1.2.1.1 Definitions

It is very essential to study definition of credit at first to understand moreabout bank credit Credit is a contractual agreement in which a borrowerreceives something of value now and agrees to repay the lender at some date

in the future, generally with interest The term also refers to the borrowingcapacity of an individual or company

Therefore, bank credit can be defined as the amount of credit available to

a company or individual from the banking system It is the aggregate of theamount of funds financial institutions are willing to provide to an individual

or organization A company or individual's bank credit depends on both theborrower's capacity to repay and the overall amount of credit available in thebanking system

1.2.1.2 Classification of bank credit

Based on different criteria, bank credit can be classified as the following:

Based on the loan term:

Short-term credit: are loans with a term of less than 1 year These loans

are often used to support payment, supplement temporary shortage of workingcapital for enterprises or satisfy daily consuming demand of individuals

Medium-term credit: are loans with a term of 1 year to 5 years Mid-term

loans are used for investing, purchasing fixed assets, technical upgrading andproduction expansion

Long-term credit: are loans with a term of more than 5 years to finance

capital for construction, upgrade and expand large-scale production

Based on guaranteed assets:

Credit with guaranteed assets: are loans with mortgage, pledge, collateral

or guarantee from the third party

Credit without guaranteed assets: are loans without mortgage, pledge or

guarantee from the third party These loans depend very much on customers’prestige and banks often perform these loans to their traditional customers

Based on loan purpose:

Good production and circulation credit: are loans provided for enterprises

to do business

Consuming credit: are loans provided for individuals to satisfy their

consuming demands such as buying houses, cars, real estate…

Based on transaction methods between banks and customers:

Direct credit: are loans lent directly from banks to borrowers and the

borrowers pay back the loans directly to the banks without financialintermediaries

Indirect credit: are loans provided for borrowers from other financial

intermediaries

1.2.1.3 Roles of bank credit

Firstly, bank credit contributes to stabilize, expand business and economicgrowth As a main channel to provide capital for the economy, this type ofcredit always satisfies capital demands of customers, hence it ensures thecontinuous development of business In the market economy, the credit is one

of the sources to form fixed and working capital of enterprises so it also helpsthe enterprises to expand production scale, promote technical improvements

to gain more and more profit Moreover, bank credit is the bridge between

saving and investment It not only stimulates saving but also supplies capitalfor investing Thus, the credit plays an important role in economic growth.

In addition, bank credit improves the efficiency of using capital A maincharacteristic of this type of credit is borrowers’ responsibility of paying backthe principal and the interest On using loans from banks, enterprises andindividuals must respect all terms and conditions of the credit contract, repaythe loans and interest in a timely manner Thus, the borrowers always have totry to use the loans effectively This will enhance the efficiency of usingcapital and prevent capital waste

Besides, the credit is a tool to implement macroeconomic targets such asstabilizing prices, economic development, restraining inflation, increasingemployment rate and social security policies of the Government To achievethese targets, the Government needs to use bank credit because the statebudget is limited whereas all targets need money to be accomplished Inaddition, this type of credit is also used to implement monetary policies andregulate money circulation Social security policies such as improvingeducation, health care quality and living environment… are usually financedfrom domestic and foreign loans of the Government Therefore, without bankcredit, the Government can hardly conduct macroeconomic targets and socialsecurity policies effectively

Last but not least, this type of credit also contributes to develop foreigntrade Nowadays, economic growth of a country always associates with theworld economy and the credit has become an important mean to linkcountries’ economy together To developing countries in general and Vietnam

in particular, bank credit plays a key role in promoting export, import andespecially modernizing and industrializing the economy

1.2.2 Banking risks

1.2.2.1 Definitions and nature of risk

All activities of individuals or groups in society have different goals.However, sometimes the goals cannot be achieved as expected due to risk Sowhat is risk? There is no official definition of risk so far According toWikipedia, risk is a probability or threat of damage, injury, liability, loss, orany other negative occurrence that is caused by external or internalvulnerabilities, and that may be avoided through preemptive action TheOxford English Dictionary defines risk as the possibility of loss, injury, orother adverse or unwelcome circumstance; a chance or situation involvingsuch a possibility Economists consider risk as the probability that an actualreturn on an investment will be lower than the expected one Although risk isdefined variously, its nature is uncertainty or unexpected occurrence of anevent that will harm the subject

1.2.2.2 Definition of banking risks

Banking risks are those risks the banks are confronted with in their currentoperation and the risks may have potentially negative effect on banks’business There are some types of banking risks which can be classified as thefollowing

1.2.2.3 Classification of banking risks

Credit risk:

The most significant and persistent risk faced by banks is credit risk Itmay be defined as the risk that a counterparty of a financial transaction willfail to make repayments according to the term and conditions of the contract,thus causing the asset holder to suffer loss This failure may be the result of

bankruptcy, a temporary change in market conditions, or other factorsadversely affecting the borrower’s ability to repay.

The most obvious example of credit risk is the risk that a customer will fail

to repay a loan However, it is important to appreciate that credit riskexposure extends to a large variety of bank’s activities including theextensions of commitments and guarantees, acceptances, trade financetransactions, placements and the range of capital markets’ instruments activitysuch as foreign exchange, futures, swaps, bonds, options, equities and bullion

In addition, credit risk may also arise from off balance sheet transactionsand take the form of delivery or settlement risk Because credit risk can causeserious consequences to banks so how to restrict credit risk is always a topconcern of bank managers

Interest rate risk:

A fundamental banking objective is to borrow funds at one rate and to lendthem at a higher one Interest rate risk refers to the financial risks caused bythe interest rate fluctuations that affect both the profit obtained by the clientand the indebtedness degree to the bank A major increase of the interest ratemay determine a financial pressure for the client’s activities, which may result

in customers’ inability to repay the amounts

Liquidity risk:

Liquidity risk occurs when a bank is not able to meet its cash or paymentobligation The risk arises because cash flows on assets and liabilities do notmatch Due to the size and the spread of the resources, the bank is often called

to borrow ‘‘short’’ and lend ‘‘long’’ This gives rise to the risk that depositorsmay seek to withdraw their funds and the bank may not be able to effect

repayment except by raising additional deposit at a higher cost, or by a forcedsale of assets, perhaps at a loss.

Thus, an important aspect of banking activities is the fact that thedepositors may withdraw their money whenever they want If a bank cannotmeet these obligations, the customer’s trust in the bank will diminish, even inthe whole banking system The customer may not wish anymore to deposittheir money at banks, and there may appear massive withdrawals of funds thatcan cause a negative effect over the national economy

Foreign exchange risk:

Foreign currency trading is one of the main business operations of banks.These activities help to diversify the economy and support enterprises inimporting and exporting sector Foreign exchange risk is the risk that occurs

in foreign currency trading due to unexpected fluctuation of exchange rate

No one can predict what the exchange rate will be in the next period, it canmove in either upward or downward direction regardless of what theestimates and predictions were This uncertain movement poses a threat to theearnings and capital of bank, if such a movement is in undesired andunanticipated direction If the bank selling rate is more than the buying one,the bank will make profit and vice versa

Operational risk:

Operational risk is the risk of loss resulting from inadequate internalprocesses or external events This risk includes legal risk but excludesstrategic and reputational risk Complex transactions are more likely to facethe risk than simple ones This type of risk is also the result of failure inmanaging human resources such as fraud, mistakes, abuse, immoral anddisqualification of bank employees The more staff banks hire, the more likely

the banks suffer the risk Inadequate system is only a reason of this risk but itcan affect all other risks in banks Moreover, other external events relating tofacilities problems, legal or politic change, and even natural disasters alsocontribute to increase operational risk.

1.3 CREDIT RISK IN BUSINESS OPERATION OF COMMERCIAL BANKS

1.3.1 Definitions

Credit risk is considered as the most frequent and significant risk thatcommercial banks face in their business operation According to ThomasP.Fitch, credit risk is the risk that occurs when borrowers fail to meet theircontractual obligation to repay a debt in accordance with agreed terms It isthe main risk in business activities of commercial banks In the book ‘‘RiskManagement in Banking’’ by Joe Besis, credit risk is the loss resulting fromcustomers’ inability to repay or poor credit quality of the loan World Bankdefines credit risk as the possibility that borrowers cannot repay interest or theprincipal on due date

In Vietnam, according to Article 02, Clause 01 of Decision No.493/2005/QD-NHNN on debt classification, provisioning and use of provisions tohandle credit risk in the banking activity of credit institutions issued on April

22nd, 2005, credit risk is the possibility of loss in banking activities of creditinstitutions because of the customers’ failure to meet their obligations ascommitted

Thus, the risk can be understood that a borrower will default on any type

of debt by failing to make payments which it is obligated to do It is aninherent characteristic of banks because lending activities always face risks

and losses The risk occurs not only in lending but also in financial leasing,discounting, security transactions, Swaps and guarantee activities.

1.3.2 Features of credit risk

Firstly, credit risk is indirect This feature arises from the reason that incredit relationship, there are always capital transfers between customers andbanks and differences between ownership and right to use of capital after acertain period of time Thus, customers’ ineffective use of capital will causethis type of risk to themselves and banks

Secondly, credit risk is various and complicated Credit activities areextremely diverse and complex, every credit relation has its owncharacteristics so the risk may occur in a variety of forms due to variousreasons Therefore, many solutions are needed to prevent and limit the risk.Last but not least, credit risk is an inherent one in banking activities When

a transaction is incurred, a certain degree of credit risk is also identified Thereason is that there are mismatches in information between lenders andborrowers The lenders always want to collect all exact information about theborrowers and their real lending demand while the borrowers only want toprovide good information for the lenders Besides, customers’ businessperformances are often affected a lot by subjective and objective factors.Thus, credit activities of banks always associate with this type of risk

1.3.3 Signs to identify credit risk

Although credit risk is inherent in banking activities, it can be recognizedeasily by some signs Once banks pay attention to the signs, they can find iteasier to handle the risk

Most of the signals arise from customers The customers tend to cause therisk to banks when they accept to borrow with a high interest rate andfrequently ask banks to fix the due date Besides, they don’t want to providetheir real financial statements for banks and try to exaggerate items on thebalance sheet In addition, there are big differences among true revenue, profitand expected ones without reasonable reasons Moreover, banks may face therisk when their customers use the loans for wrong purposes in accordancewith terms and conditions in the credit contract

There are also signs of credit risk from credit policies of banks Banks aremore likely to suffer this type of risk when they conduct lending activitieswithout mortgages, pledges and guarantees from third party for newcustomers Another typical signal is that credit staff do not comply strictlywith credit process, they often ignore necessary steps in the process onlending to the traditional customers

1.3.4 Sources of credit risk

Nowadays, credit risk is a top concern of all banks managers To minimizethe risk in banking business operations, banks need to figure out the sources

of the risk

1.3.4.1 Objective sources

Political and legal environment:

A stable political regime contributes to the economic growth andaccelerates effectiveness in business activities of enterprises In contrast, theinstability of the regime may result in employees’ strikes and financial crises

so enterprises’ operation faces a lot of difficulties, hence credit risk is morelikely to occur Moreover, inflexible regulations and policy of theGovernment may cause the risk to banks because the banking system is

extremely sensitive to changes of law Thus, banks should forecast the trend

of changes in law environment to have appropriate development orientationand credit policy

Economic environment:

Every change in economic environment affects credit risk The growth orrecession of the economy impacts the success or failure of borrowers Duringthe period of economic growth, the borrowers can make much profit fromselling goods, investing, brokerage…and repay the loans easily However, adownturn in the economy may lead to a decline in revenue and profit ofenterprises so they will find it difficult to pay back the loans on due date tobanks The more recessive the economy is, the more likely banks andcustomers suffer the risk

Besides, inflation also has a bad effect on business operation ofenterprises Inflation increases manufacturing expense, hence enterprises have

to borrow money from banks to ensure continuous production In addition,inflation decreases customers’ consuming demand so the enterprises havedifficulties in gaining profit from selling goods Consequently, the enterprisesmay default on the loan

Sources from nature:

Natural disasters such as floods, earthquakes, storms, droughts…alwayscause a great deal of damage to people Borrowers also suffer the damage thatruins their business As a result, they will fail to make repayments which it isobligated to do and their failure causes credit risk to banks

1.3.4.2 Subjective sources

Sources from customers:

Sources from customers are the main causes of credit risk Although thesources occur by accident or deliberately, they have a negative effect onbanking activities

A typical source from borrowers is their poor ability and experience inbusiness management that are not mentioned in a credit contract Becauseboth of the ability and experience cannot be measured so credit staff havedifficulties in assessing the borrowers exactly Limitations on businessmanagement are only proved by fall in revenue and profit and growth ininventory which result in failing to repay principal and interest in a timelymanner to banks

Every borrower commits to spending the loans on right purposes and payback the loans on due date However, their business is not always as good asthey expected If there is something wrong with their manufacturing system,product quality and the loans are used for wrong purposes, the possibility ofnot repaying will be extremely high

Another source comes from moral hazard of customers On borrowing, allcustomers want to provide their best information for banks They always trytheir best to make their financial statement sound reasonable, even falsifyitems on the balance sheets Furthermore, some borrowers are not willing tomake repayments although they can Banks should pay attention to thesetypes of borrowers because the borrowers tend to defraud to obtain the loansillegally

To individual customers, the sources often come from theirunemployment, a decrease in their income and their family background

Sources from banks:

Besides sources from customers, credit risk also comes from banks’activities One of the causes is inappropriate credit policy Credit policy playssuch an important part in orienting lending activities of banks An appropriatecredit policy will help banks to gain profit and decrease risks and vice versa.However, the policy of some banks is not very reasonable, for example,focusing on increasing total outstanding loans rather than credit quality orpaying more attention to collateral than the efficiency of projects Therefore,banks need to apply an adequate credit policy to curb the risk.

Additionally, credit risk may occur in all components of credit process so

an inflexible process contributes to make the risk occur On evaluatingcustomers’ information, banks must collect all information about thecustomers Collecting the information inexactly or insufficiently is a cause ofthe risk because improper information may result in making wrong decisions

on lending Nowadays, banks can collect their customers’ information fromCredit Information Center (CIC) However, the database of CIC is notupdated frequently so banks still depend on information provided by theircustomers so much Another source is the lack of the process of controllingand supervising after the loans are lent to customers Credit personnel tend totrust absolutely traditional customers so they often ignore the above process.Limited qualification and moral hazard of banks’ credit staff is also anoticeable reason They directly collect customers’ information, evaluate thecustomers and decide whether to lend or not so lending decisions mainlydepend on them The employees who are qualified poorly often make wrongdecisions or assess customers improperly Furthermore, they may be bribed tohide poor information or turn the information into good one for borrowers tomake illegal loans The loans are often not repaid for banks, hence banks aremore likely to face credit risk

1.3.5 Impacts of credit risk

Credit risk has adverse impacts on banking business performances Firstly,the risk may decrease banks’ prestige To all banks, gaining reputation isalways a top priority in business strategy because banks with good reputationcan raise a huge amount of capital from individuals and enterprises However,due to the risk, banks cannot collect the principal and interest in a timelymanner from borrowers and make repayments to their depositors Therefore,depositors lose their trust in banks and banks’ reputation falls Secondly, thistype of risk makes liquidity of banks drop remarkably Being paymentintermediaries, banks need to maintain a reasonable liquidity Because ofcredit risk, banks cannot gain profit from making loans whereas they mustrepay the deposits whenever depositors withdraw their saving money.Accordingly, banks have to raise capital from other banks or other sources tomake repayments for depositors When banks do not have enough money topay, they will lose their payment ability that results in liquidity risk Thirdly,the risk decreases banks’ profit Profit from making loans accounts for 40-80% of banks’ profit When this type of risk occurs, banks may not collectthe interest from borrowers and they have to use provision for the risk so theprofit is reduced very much At last, as a result of three above consequences,banks may go bankrupt

Besides, credit risk has negative impacts on customers When banks sufferthe risk, their payment ability is lost, hence they may not make repaymentsfor depositors and borrowers also have difficulties in borrowing money frombanks Accordingly, individuals and enterprises do not have enough money to

do business and pay for employees

Lastly, this type of risk may ruin the whole economy Losing trust inbanks, depositors try to withdraw their deposit out of banks so banks are morelikely to go bankrupt Because of the important role of the banking system inthe economy, the bankruptcy of banks leads to economic recession, raise inprice, unemployment and inflation rate and social instability In addition, therisk affects not only one economy but also the world economy because creditrelations relate to a large number of countries and Governments Once oneeconomy becomes weaker due to credit risk, the world economy may facecrises.

1.3.6 Criteria of measuring credit risk

Credit risk is inevitable in banking business activities so minimizing therisk is always a top target of all banks To assess the credit risk situation at acertain bank, banks need to use some criteria

Firstly, debt classification of State Bank of Vietnam is needed According

to Decision No.493/2005/QD-NHNN on debt classification, provisioning anduse of provisions to handle credit risk in the banking activity of creditinstitutions issued on April 22nd, 2005, debts are divided into five categories.The five-category system classifies bank loans according to their inherentrisks as ‘‘pass’’, ‘‘special-mentioned’’, ‘‘sub-standard’’, ‘‘doubtful’’ and

‘‘loss’’, which are chiefly based on the period that payments of principal andinterest are overdue

Category 1 (pass): debts those are not due and the borrowers are able to

pay the principal and interest of debts in full and a timely manner

Category 2 (special-mentioned): debts those are overdue less than 90 days

and rescheduled debts that are not due

Category 3 (sub-standard): debts those are overdue from 90 to 180 days

and rescheduled debts that are overdue less than 90 days

Category 4 (doubtful): debts those are overdue from 181 to 360 days and

rescheduled debts that are overdue from 90 to 180 days

Category 5 (loss): debts those are overdue more than 360 days,

rescheduled debts that are overdue more than 180 days and debts that aresubject to rescheduling arrangements are directed by the Government

Secondly, banks use overdue debts ratio

Overdue debts ratio= Total overdue debts ÷ Total outstanding loans

Overdue debts are debts whose part or all of principals or interests areoverdue The ratio is used to evaluate the credit quality of credit institutions.Lastly, non-performing loans ratio is used

Non-performing loans ratio=Non-performing loans ÷ Total outstanding loans

Non-performing loans are loans upon which the debtor has not made his orher scheduled payments for at least 90 days The loans are classified fromcategory 3 to category 5 in accordance with Decision No.493/2005/QD-NHNN The ratio is also used to estimate the credit quality of creditinstitutions

CHAPTER 2 CREDIT RISK RESTRAINT SITUATION AT BIDV VINH

PHUC BRANCH

2.1 GENERAL INTRODUCTION ABOUT BIDV VINH PHUC BRANCH

2.1.1 Establishment and development history of BIDV

Being founded on 26th April 1957 under the name Bank for Construction

of Vietnam, the Joint Stock Commercial Bank for Investment andDevelopment of Vietnam (BIDV) is one of the largest state-owned banks

in Vietnam It is the nation's number one bank in net income($70 million USD) and the second biggest bank in asset ($18.8 billion USD)

in 2007 (behind Agribank) According to the United Nations DevelopmentProgram report on the 100 largest enterprises in Vietnam, BIDV came in atthe 4th position after Agribank, VNPT and EVN

Besides being a leading experienced bank of finance services, brokerage,loan syndication and advisory, modern, convenient banking products; BIDValso provides products for non-life insurance designed to match the overallpackage to customers of BIDV, a wide range of brokerage services,investment and investment consultant with the ability of quickly developing asystem of agents to receive orders nationwide In addition, with more than16,000 staff, employees and financial consultants who are well-qualified andwell-trained with full experience and have been accumulated and transferredfor over half of a century; BIDV always brings its customers the benefits andreliability Besides, having 118 branches, 500 transaction offices, thousands

of ATMs, POS transactions in 63 provinces, cities nationwide and branches in

Laos, Cambodia; BIDV deserves a top choice of individuals and enterprises

in accessing the financial and banking services

2.1.2 General introduction about BIDV Vinh Phuc branch

BIDV Vinh Phuc branch is founded in 1997 along with the establishment of Vinh Phuc province At the early stage, the branch had only

re-a smre-all office with 29 members of the stre-aff At thre-at time, its totre-al re-asset, cre-apitre-almobilized and total outstanding loans stood at just about VND 78.4 billion,VND 28.3 billion and VND 50.7 billion respectively

During the period from 1997 to 2000, the branch primarily focused onbuilding facilities and arranging organization structure The main businessactivities were making loans to local authorities and mobilize capital from

individuals From 2001 to 2005, BIDV Vinh Phuc branch began to develop

cooperation relationship with enterprises of all sectors and applied newbanking services such as international payment, foreign currency trading In

2006, the branch’s scale was decreased remarkably because of the separation

of BIDV Phuc Yen branch and fierce competition from other banks in theprovince Additionally, the branch had a great deal of difficulties in businessperformance due to high inflation rate, financial crisis and natural disasters However, due to the strict compliance with guidance policies of localauthorities and BIDV, the personnel had appropriate solutions to improve thebusiness effectiveness In 2011, the branch’s total assets, total capitalmobilized and total outstanding loans reached VND 1,859 billion, VND 1,530billion and VND 1,760 billion respectively as a result Non-performing loansratio was 0.96 % and the average profit after tax per an officer was VND 531million