Risk management at vietinbank hoan kiem branch

Actual status of credit risk management at Vietinbank Hoan Kiem Branch.. Actual status of operational risk management at Vietinbank Hoan Kiem Branch.. Through studying the causes, major

Cohort 2015 – 2017

Master’s Thesis

“Risk management at Vietinbank Hoan Kiem branch,

Current situation and proposed solutions”

Author: Nguyen Thi Kim Oanh

Advisor: Assoc.Prof., Dr Ly Phuong Duyen

Hanoi, June 2017

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CONTENT

TABLE OF ABBREVIATIONS 3

LIST OF TABLE AND FIGURES 3

1 CHAPTER 1 : INTRODUCTION 5

1.1 Background to the study 5

1.2 Aims of the study 6

1.3 Scope of the study 6

1.4 Method of the study 6

1.5 Outline .6

2 CHAPTER 2 : THEORETICAL BACKGROUND 7

2.1 Concept of Risks in Commercial Banking 7

2.2 Classification of Risks in Commercial Banking 7

2.3 Causes of risks 12

2.4 Risk management in commercial banks 13

2.5 Risk Management Techniques 21

3 CHAPTER 3: RISK MANAGEMENT AT VIETINBANK–HOAN KIEM BRANCH 24 3.1 General introduction about Vietinbank Hoan Kiem Branch 24

3.2 Actual status of credit operation at Vietinbank Hoan Kiem Branch in 2014-2016 26

3.3.1 Products/services of Vietinbank Hoan Kiem Branch 26

3.3.2 Business performance of Vietinbank Hoan Kiem Branch in 2014-2016 27

3.3 Actual status of credit risk management at Vietinbank Hoan Kiem Branch 30

3.3.1 Actual status of credit operation 30

3.3.2 Credit quality and risk 33

3.3.3 Actual situation of credit risk management at VietinBank Hoan Kiem Branch 38

3.3.4 Actual status of operational risk management at Vietinbank Hoan Kiem Branch 45

3.3.4.1 Actual status of operational risk VietinBank Hoan Kiem Branch 45

3.3.4.2 Operational risk management procedure at VietinBank Hoan Kiem Branch 49

4 CHAPTER 4 : SOLUTIONS AND RECOMMENDATIONS 54

4.1 Orientation for risk management at Vietinbank Hoan Kiem Branch 54

4.2 Solutions 55

4.3 Recommendations for strengthening of risk management at Vietinbank HK Branch 64

CONCLUSIONS 66

REFERENCES……… ……….67

3 BIS Bank for international settlement

5 KRI Key risk indicators

7 ATM Automatical Technology Machine

11 E&Y Earn and Young

12 SMEs Small and medium enterprises

14 LEQ Equivalent Loan Exposure

15 PD Probability of Default

18 CIC Credit information center

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LIST OF TABLE AND FIGURES

No of

tables/firgures

Name of tables/firgures Page

Table 3.1 Branch’s business performance over the years 28 Table 3.2 Condition and classification of loan by time 31 Table 3.3 Outstanding loan classification by economic sectors 32 Table 3.4 Outstanding loan classification by economic sectors 33

Table 3.6 Analysis of overdue debt structure 36 Table 3.7 Bad debt situation over the years at the branch 38 Figure 4.1 Basic Risk Management Framework 60

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EXECUTIVE SUMMARY

1 CHAPTER 1 : INTRODUCTION

1.1 Background to the study

Risk management is very important to an organization, especially a commercial bank, which trades financial services with variety of risks In the context of the economic crisis in Vietnam and in the world recently, the Vietinbank system has faced up with so many risks, greatly affecting to the business operations of commercial banks in general and Vietinbank Hoan Kiem Branch in particular Nowadays when the economy is under the unpredictable volatility, risk management is increasingly concerned There are numerous causes for risks in the bank operation; therefore, risk management issues is compared as the survival matter of the banks by the saying profits is proportional to risks” In other words, the better a bank’s performance is, the higher the possibility of risks Besides, too tight risk management may lead to inefficiencies Through studying the causes, major risks Vietinbank Hoan Kiem Branch’s operation, the author thereby attemped to find out the best risk management solutions to balance risk management and business performance for Vietinbank Hoan Kiem Branch

The common types of risks for commercial banks are credit risks, market risks, liquidity risks, operational risks, goodwill risks, compliance risks and strategic risks, etc., all of which have a huge impact on the operation of the entire Vietinbank system in general and Vietinbank Hoan Kiem Branch in particular at different levels and frequences depending on specific types of risks However, the thesis was only limited within the major risk types which have the most and deepest influence on the operation of Vietinbank Hoan Kiem Branch, namely credit risks, operational risks and market risks The remaining types such as goodwill risks, liquidity risks and compliance risks with low frequency and mild level effects on Vietinbank Hoan Kiem Branch’s operation are out of the scope of the thesis

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1.2 Aims of the study

The author, as the banker of Head Office of Vietinbank, would like to take this

opportunity to select the subject “Risk management at Vietinbank Hoan Kiem Branch, current situation and proposed solutions” as the Master thesis with

the aim to sum up, for completion of risk prevention and limitation in Vietinbank Hoan Kiem Branch, it is necessary to get an insight into the causes and types of potential risks to Vietinbank Hoan Kiem branch’s operation, from which possible solutions are provided for the best risk governance and the sustainable development of the business activities

Research questions:

- What are the kinds of risk at commercial bank?

- Which kinds of risk can usually affect to operations of Vietinbank Hoan Kiem Branch?

- What are the current situation and problems of risk management at Vietinbank Hoan Kiem Branch?

- What are the solutions to solve and prevent the risk management at Vietinbank Hoan Kiem Branch?

1.3 Scope of the study

The report studies the causes, major risks Vietinbank Hoan Kiem Branch’s operation

In the context of report, it will research the risk management credit risk and operational risk at Vietinbank Hoan Kiem Branch from 2014 to 2016

1.4 Methods of the study:

Thesis used qualitative and quantitative research methods are clarified, comparative and statistical methods

1.5 Outline

The thesis consists of 4 chapters, with the following:

Chapter 1: Introduction

Chapter 2: Theoretical background

Chapter 3: Risk management at Vietinbank Hoan Kiem Branch

Chapter 4: Solutions and Recommendations

Conclusions

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2 CHAPTER 2 : THEORETICAL BACKGROUND

2.1 Concept of Risks in Commercial Banking

There currently exists many concepts of risks For example, risks are “losses or missing of opportunities” occuring in the future and resulting from current actions” Risks are not good and happen in an unexpected way Risks are bad lucks and uncertainties occurring in the course of banking business, adversly influencing on a bank’s activities Risks relate to changes in actions, ways of thinking and acting, position, etc., whether can change the future Moreover, risks involve in the selection and uncertainty of such selection’s order Finally risks will result in losses

According to the material supplied by the State Security Commission of Viet Nam (SSC) in a workshop on “Risk Management for commercial banks” held in

Ho Chi Minh City on August 05th, 2006, the risks in banking are defined as “the possibility that an action or event may bring adverse outcomes directly affecting

an institution’s income or capital or create obstacles to that institution’s business continuity and use of opportunities to make profits”

From the conventional viewpoint, risks are defined as “events, when occur, may make losses of assets or create a debt” The moderner definition of risks implies a broader meaning and not just takes into account financial risks but also those related to operational and strategic objectives Risks are the possibility that uncertain events in the future will make an entity not achieve its strategic and operational objectives as well as opportunity costs for such losses of market opportunities Risks concern both losses of capital and assets and impairment of goodwill and brand of a bank Accepting risks is the focus of banking activities, requiring the banks to assess their business opportunities based on the risk-benefit relationships for seeking out opportunities to gain the benefits worthy of acceptable risks The Banks will work well if their risk level is reasonable, under control and within their main resource and credit capabilities

2.2 Classification of Risks in Commercial Banking

Risks can be classified by different aspects In the scope of commercial banking, the fundamental risks taken into account include credit risks, liquidity risks,

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market risks, operational risks, strategic risks, compliance risks/policy risks and goodwill risks

Credit risks are the possibility of losses inccured by a commercial bank

resulting from customers’ failure or inability to perform their obligations under commitments

Liquidity risks lead to damages and/or loss or solvency of a commercial bank

when it has not enough funds available for reasonable costs and/or fails to sell its assets at reasonable costs and/or forces to raise funds at high costs and on time needed to meet its financial obligations Liquidity risks are consider the largest when a commercial bank cannot anticipate the needs for new loans or deposit withdrawals and access commitments, risk concentration or asset and liability structure

Market risks are of asset loss types, occuring when the interest rate, exchange

rate or market rate adversely volatile Market risks covers a very wide range, thereby divided into three specific subtype including exchange rate risks, interest rate risks and market price risks

Operational risks are risks that may cause damages due to insufficient or

defected internal processes, human and systems or external factors and events

Strategic risks arise from the inability of a commercil banks to implement its

business plan, strategies, decision-making, adequate resource allocation as well as adapt to changes in its business environment

Compliance risks are the risks that may arise from the parties’ breaches of or

non-compliance with laws, rules, regulations or practices, or when the rights and legal obligations of the parties have been established Compliance risks relates to not only legal compliance but also professional ethical standards, conventions and treaties issued by associations

Goodwill risks are the risks that may arise from the public’s negative opinionsc

about commercial banks (when negative news about them are made in public) leading to the loss of funding sources, loss of customers, reduced revenues Goodwill risks may involve actions that contribute to the lasting negative perceptions in the public about the general operations of commercial banks; thus,

on banks’ operations

• Credit risks

As defined by the Basel Committee, credit risk is the possibility that a borrower

or counterparty fails to perform its obligations under a contract Also according to this committee, credit risks are known as risks of loss for a bank or a default in contractual covenants” due to any material violation of the contract obligations on repayment of principals and/or interests.”

In other words, “Credit risk in banking activities of credit institutions is the possibility to occur losses in banking activities of credit institutions due to customers fail or are inable to perform their obligations under commitments” Pursuant to Clause 1 of Article 2 Regulations on loan classification, establish and use of provisions against credit risks in banking activities of credit institutions

in attachment to the Decision 493/2005/QD-NHNN dated April 22nd, 2005 made

by the Governor of the State Bank of Vietnam, credit risks are defined as the possibility of losses in the banking activities of credit institutions

Despite different ways of definitions, the aforesaid concepts of credit risks have the same nature that is credit risks are the possibility (probability) of triggering the economic losses suffered by banks due to the borrowers’ delay or failure in repayment of loans (including principals and/or interests) Credit risks may cause financial losses for banks, for instance, reduction of net incomes and capital market prices, in serious cases, lead to losses or, at a higher level, bankruptcy of banks

In terms of objective and subjective features of causes, credit risks are classified into objective risks and subjective risks

Operational risks involve employee frauds, thefts, system failures, power failure, flooding or other reasons for the errors in a bank which can not be included in other risks Operational risks also include compliance risks Compliance risks are potential exposures to earnings and capital arising from failure to comply with laws, rules, regulations, best practices, internal policies and procedures or other ethical standards

Operational risks are not new to banks These losses resulted from operational risks have been reflected in the balance sheets of banks for many decades They occur every day in the banking industry However, most of the losses are immaterial and entirely predictable and preventable, for example, errors in book recording, credit card errors, or brokendown of some banking equipment, etc Besides, some events can cause huge losses such as illegal stock trading, corruption, book forgery or external factors namely natural disasters, fires, etc

In the process of research and interviews with numerous bank executives around the world since 1998 sofar, BIS (Bank for international settlement) have given various definitions of operational risks After many revisions, operational risks are generally accepted to be the risks that can causes damages due to human, incomplete or poor operational processes and systems and objective external events Operational risks includes legal risks, except for strategic and goodwill risks

Under Basel II, Operational risks are the exposures to losses directly or indirectly caused by unqualified or failed processes, human and internal systems

Human risks are risks related to banks’ employees For example, bank officers

collude with customers to prepare forged documents for loans; raise collateral values for loans to receive remuneration, only submit interests to the banks after direct collection of both principals and interests from borrowers while retaining the principals for personal expenses In addition, human risks can be seen from the unexperienced and unqualifed employees leading false accounting and mistakes

Systematic risks are risks that may occur such as error data entry, poor control

of changes, poor project management, programming, service and system secourtiy errors as well as inappropriateness of systems

External risks occur beyond the control of the banks and are usually caused by

the events of other banks having influential impacts on the whole industry such as external frauds and thefts, fires, disasters, failed outsourcing arrangements, demonstrations, riots, etc

Legal risks are the risks arising from the ambiguity of the legal action or

ambiguity in the application and interpretation of contracts, laws or regulations In some countries, legal risks stem from the ambiguity of the legal opinions

• Relationships of risk categories in operation of commercial banks

Risk categories have the dialectical relationships with each other The occurance

of a risk will lead to that of a variety of others For example, a loan officer fails to follow the professional regulations (operational risks) causing losses of assets (i.e credit risks and liquidity risks) Of risks in the banking business, the operational and credit risks are two types of the most affecting and covering all categories of risks They arise from human and internal systems; hence, they attach to each existing department of the banks Therefore, risk management in banking activities should be carried out simultaneously for categories in order to minimize risks

- The banks have too focused on profits and put the desire for earnings in the higher position than healthy loans, unfairly competed with other banks and non-banking institutions to get the more proportion of loans whereas the control and supervision has not been carried out regularly (credit officers do not grasp the credit situation of customers as well as credit environment of the economy) To this extent, there have close links with the operational risk of the banks

Customer-related causes:

- For corporate customers, the main cause stems from poor management level leading to the inefficient use of loans as expected or inaccurate business and production plans; weak and nontransparent corporate financial situation, and customers’ unwillingness to repay, ect

- For individual and household customers, the cause may be health conditions or diseases; temporary or permanent unemployment situation affecting their incomes; or borrowers’ incorrect budget planning, wrong use of loans, lack of experience in use of funds to organize production and manage business

Objective causes:

- Natural disasters, enemy sabotage, epidemics, fires, etc.;

- Unstable economic environment;

- Unfavorable legal environment affecting business operations of borrowers and transferring credit risk of borrowers to commercial banks

• Causes of Operational Risk

Operational risk is caused by the following factors: procedures, human, systems, external events and other issues Such factors are expressed as follows

Internal issues

- Risk due to bank officers;

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- Risk due to professional regulations and procedures;

- Risks from support systems, core banking

External issues External events which are factors beyond the control of the

banks also contribute to operational risk

- Risk due to deceptive acts, thefts and/or guilty of external entities (acts of sabotage, bombings, etc.)

- Risk from external events and/or natural disasters (earthquakes, hurricanes, etc.) making the banks’ operations disrupted/damaged

- Risk from changes in documents and regulations of the government, relevant departments affecting the banks’ operations

Losses due to external events may be reduced through insurance, contingency plans and recovery systems The continuous business planning is an important way to help banks prepare for the risk from external events and manage these risks

Other issues: volume and value of transactions, complexity of transactions,

changes that the banks are facing (new ownership, new management, new employees, new products, changes in policies, procedures, systems, etc.) The banks which are in the process of merging with other banking organizations have the particularly high level of operational risk

2.4 Risk management in commercial banks

2.4.1 Concept of risk management in commercial banks

Risk management is to identify the level of risk that a business wants and identify current risk level of businesses are suffering On the other hand, the use

of derivatives or other financial instruments to minimize the occurrence of risks or adjust the risk level real risk that the rate they want

In other words, risk management is the process of approaching risk in a scientific, comprehensive and systematic in order to identify, control and mitigate the damage, loss, adverse effects of risks, concurrent trying to turn risks into opportunities successfully bring added value to the business

According to the Basel Committee on Banking Supervision: "Risk management

is a continuous process should be implemented at all levels of a financial

Identify risks: Identify risks, this is a precondition for risk management Risk

identification is the process of determining continuous and systematic business activities of the bank, including the monitoring and review, environmental research activities and all activities of the bank to agree Statistics are all kinds of risks, including projected new risks may appear in the future to take measures to control, suitable funding for each type of risk

Risk analysis: Risk analysis is finding the causes of risk From finding out the

causes and the factors affecting the causes, risk analysis gives us measures of risk prevention more effective

Risk Measurement: This job requires the collection of data, matrix establish

risk measurement and analysis To assess the significance of risks to the bank, it uses two criteria: frequency of occurrence of the risk and magnitude of risks (extent of damage caused by risky), this is criteria have a decisive role

Control, risk prevention is the focus of risk management, which is the use of methods, techniques, tools, strategies and action programs to prevent, prevent or minimize the damage Furniture, unwanted effects may occur to the bank These precautions may include: risk prevention, loss prevention, risk transfer, risk diversification, information management,

Sponsor Risk: Despite the implementation of precautionary measures, but the

risk may still happen, then we need to monitor and pinpoint the loss of assets, human resources or on prices legal value Then, to set the appropriate funding measures Overall, these measures are divided into two groups: self-remediation and risk transfer

2.4.2 Contents and criteria for risk assessment

a) Risk Identification

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Risk identification is the continuous and systematic process of determining risks and uncertainties of an organization The identification aims at developing information about sources of risks, risky elements and risk exposures

b) Identification of credit risk

Credit risk is a type of risk which is difficult to be identified in the course of operation of commercial banks Credit risk is shown in troubled loans and shown

in different forms Stemming from the actual credit practices, the banks have drawn some basic signs to help credit officers recognize, judge and timely take measures to prevent the actual risks They are as follows:

Suspension rate: is the amount that customers fail to pay at due Suspension

rate is also an important sign to identify credit risk because the interest payments are not linked to the principal repayment and very much smaller than the principals, paid at the end of every month The enterprises’ failures to make interest payments show their severely financial problems

Some other signs: Credit risk is often hidden in “troubled loans”, expressed by

many signs; however, there is not a specific model to accurately and fully describe the signs of the occurrence of credit risk in the future Besides, through tests in the real credit operations, some signs below are generally effective warning for credit officers about the solvency of borrowers:

- Delay in submission of financial statements of borrowers

- Changes in relationship between banks and borrowers

- Abnormal increases in inventories as well as liabilities

- Reduced quality of enterprises’ products and services, loss of customer confidence, leading to sales with longer payment terms, sales to customers having weak financial capabilities and low liquidity

- Failures in repayment of loans orinterest on time

- Changes in organizational structure of business management

- Natural disasters such as hurricanes, floods, fires, forest fires, etc

c) Identification of operational risks

Commercial banks identify operational risk in accordance with the following contents: identification of risk exposures causes of risks, subjects of risks and level of risks Depending on its risk management method, each bank determines

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its method of operational risk identification; yet, the operational risk identification

in commercial banks is done through 7 groups of signs below:

- Group of organizational structure, personnel and workplace safety related

risk signs: Through analysis and evaluation, the banks will find out signs of

risks such as risk from employees, risk from policies of staff recruitment, arrangement and appointment, risks from noncompliance with legal provisions for employees

- Group of internal policy and regulation related risk signs: Incomplete, loose

and general provisions leading gaps for bad guys to take advantage of and damages of the banks The texts and regulations are overlapped or impossible with unreasonable matters for people to implement The texts and rules are incompatible with the applicable provisions of the law

- Group of internal fraud related risk signs: With regard to this group, the banks shall identify risks such as officers intend or collude with customers to

take illegal actions aiming at appropriating property, having bad influence on reputation of the bank

- Group of external fraud related risk signs: it is necessary to identify risk such

as frauds made by of customers or third parties, such as providing false information, making false transaction records

- Group of working process related operational risk signs including errors or

mistakes arising during the working process of all departments: is necessary to identify risks such as: Operational actions beyond their rights and authorities, failure to comply with regulations and procedures ; loose control, etc

- Group of information technology system related risk signs including:

hardware, security systems, network equipment, transmission lines, operational software which affect business activities of the bank

- Group of property damage related risk signs including the likelihood of risks

such as sabotage, terrorism, natural disasters, earthquakes, floods, fires, etc

d) Risk measurement

• Measurement of credit risk

- In fact, there are many different models to measure credit risk These models are varied, including qualitative and quantitative models

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• Qualitative models of credit risk - the model 6C

For each loan, the first question is whether the customers are willing to pay and afford to pay the debt in due or not This involves in studying in detail the "6 factors - 6C" of customers including:

- Character: Credit staff must ensure that the consumer borrows with clear purpose and seriously intention to pay in due

- Capacity: the borrower must have legal and civil capacity; the borrower must

be legal representative of the enterprise

- Cash flow: determine the repayment source of the borrower

- Collateral: is the second source of revenue to repay bank loans

- Conditions: the Bank stipulates the conditions according to the credit policy in each period

- Control: evaluating the impact of changes in laws and regulations of operation, the ability of borrowers to meet the Bank standards

The application of this model is relatively simple, but the limitations of this model is that it depends on the accuracy of information sources, predictability and the credit staff’s analysis and evaluation capacity

• The model quantifies the credit risk

Currently, most of the banks have accessed to the modern risk assessment methods These are the most common models

X1: "Net working capital / total assets" ratio

X2: "Accumulated profit / total assets" ratio

X3: "Earnings before interest and taxes / total assets" ratio

X4: "Stock market price / book value of long-term debt" ratio

X5: "Revenue / total assets" ratio

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The higher the value Z is, the lower probability of borrower default is Thus, when the Z value is low or is a negative number, it will be the basis for rating customers in the high risk of default group

If Z < 1.8, customer have high probability default

If 1.8 < Z <3: not determined

If Z > 3 customer have no probability default

This model of risk measurement techniques is relatively simple However, it only group customers to risk and no risk category In fact, the credit risk level of each different customer, from the low level such as the late interest payment or interest default to the level of losing both principal and interest

• Ratings model of Moody's and Standard & Poor's:

Credit risk in lending and investing is often expressed by rating bonds and loans In which, Moody's and Standard & Poor's is the leading companies Moody's and Standard & Poor's rates bonds and loans into 9 groups and under quality decreasing class, in which, the banks should only lend to the first 4 classes

In summary, the bank’s assessment of the borrower risk’s probability to evaluate the loans or debts depends on the investment scope and the cost of collecting information The factors relating to the investment decision include:

- Group of borrower-related factor:

+ Credibility of borrowers: basing on the borrowing- prepaying history of

customers If during the borrowing process, customers always pay in full and on time, it will gain the Bank’s belief

+ The level of income volatility: For any capital structure, income has a huge

influence on the borrower repayment capacity Therefore, the companies with stable earnings history will attract more investment

+ Collateral: is the main condition for any lending decisions to encourage the

effective capital use and enhance the customer's responsibility to repay the bank

+ Interest rate: high interest rate is resulting from tight monetary policy which

is often associated with a high degree of risk While investors are often attracted

by the profitable project, they often ignore the fact that the higher profits comes along with the greater risk

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- Group of market-related factors:

+ Economic cycle: The economic cycle has a significant influence on the

production and operation of enterprises Therefore, the banks need to analyze

the economic cycle to make decisions in the right time and invest in the low-risk sectors

+ Interest rate: a high interest rate is an expression of a tight monetary policy,

often associated with a high level of risks While investors are often attracted by largely profitable projectst while ignoring higher profits greater risk

- Risk assessment through simple ratios: This is a simple method to measure

credit risk at the most basic level using the ratio below:

Bad debt ratio

Bad debt ratio =

Bad debts

*100% ( 3%) Total loans

Credit risk ratio:

Credit risk ratio =

Total loans

*100%

Total assets The ratio shows the proportion of credit items in the assets and risks

• Measurement of operation risk

According to the Basel Committee, there are two methods to calculate capital requirements for operational risk, in the gradual increase order of complexity and risk sensitivity: (i) Standardization method; and (ii) Advanced Measurement Method (AMA)

Standardization Method

In the Standardization Method, banking operations are divided into 8 segments

of services: corporate finance, commerce & sales, retail banking, commercial banking, payment and agency services, property management and retail brokerage

In each service segment, the gross profit reflects its scale of operation, thus, also reflects the operational risk The capital requirement for each service segment is

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measured by multiplying the gross profit with a coefficient (coefficient β) applied

to such service segment Coefficient β shows the industry-wide correlation between losses from the operational risk actually recognized and the industry’s scale of gross profit for each type of services The total capital requirements are calculated by adding up the capital requirements of service segments together The total capital requirements may be represented by the following formula:

K TSA = ∑(GI1-8 x β1-8) (i = 1-j)

Whereby:

TSA

K : Capital requirements according to the Standardization Method;

1-8

GI : Average annual gross profit for three most recent years, determined by the Basic Indicator Method, for each of eight operation segments;

1-8

β : A fixed rate prescribed by the Basel Committee, reflecting the relationship between the required capital and the gross profit of each operation segment

Details of β values are as follows:

coefficient β for each operation segment

Corporate finance (β1) 18%

Commerce and sales (β2) 18%

Retail banking (β3) 12%

Commercial banking (β4) 15%

Payment (β5) 18%

Agent services (β 6) 15%

Property management (β7) 12%

Retail brokerage (β8) 12%

Advanced Measurement Method (AMA)

In the AMA method, the legal capital requirements will equal to the size of risks

in accordance with the measurement results of banks’ operational risk measurement system, provided that such system achieves qualitative and quantitative standards for the AMA method Banks applies this method only with permission of the bank management agencies

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2.5 Risk Management Techniques

2.5.1 Credit Risk Management

Credit risk management must primarily ensure the general administration steps, including planning, organization, arrangement, management and inspection Methods of credit risk management is also recognized and implemented in collaboration in different aspects:

Credit risk management by influential factors

This is a method to identify and manage influential factors to credit risk, including the following groups:

- Bank-related factors: credit policies, risk management models, quality of human resources, credit appraisal, post-monitoring and inspection, credit growth rate, customers, loan terms, borrowers, loan valuation, collaterals, portfolio diversification, moral risk, and policies of human resource administration, etc

- Market-related factors: economic cycles, inflation, interest rates, exchange rates, prices and markets, risk policies, etc

- Customer-related factors: feasibility and effectiveness of borrowing plans, collaterals, liquidity, profitability, leverage ratio, effective capital management, cash-flow, morality of business owners, management capabilities and qualification, industry prospects, competitiveness and diversification of business, etc

- Other factors: Accuracy and availability of information, legal framework, supervision role of the Central Bank of Vietnam, etc

Management by credit granting segments

Pre-disbursement: Management involves from policy making to evaluation and credit-granting decision This is a crucial stage in the entire process

During disbursement: Management includes preparation of records and inspection while disbursement

Post-disbursement: Causes for risks may have hidden in the two first segments (pre and during disbursement); however, credit risk is only really revealed and arises after disbursement

Management by time of credit risk occurrence

- Before occurrence of risks:

Identify and assess risks

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Determine risk level

Grasp and practice forecast steps

Eliminate if risks are too large

Finance for acceptable risks by choosing among self-financing, insurance and risk diversification methods

- After occurrence of risks: manage damages, make plans of risk recovery

It can be concluded that the duties of the credit risk management are to forecast, detect potential risks, discover unfavorable events, prevent negative situations which have occurred and possibly spreaded in a wide scale, deal with risk consequences to limit damages to the assets and incomes of the banks This is a closely logical process which should be well conducted right from the forecasting and prevention stage until the handling of risk consequences by administrators

2.5.2 Operational risk management

It is the international standard-oriented operational risk management framework that serves as a firm base for the operational risk management of commercial banks in Vietnam This framework includes internal policies, organizational structure, procedures and software solutions for operational risk management in commercial banks In the current context when commercial banks operate in the market mechanism under the strict management of the Central Bank

of Vietnam, it is necessary for them to consider carefully choosing an operational risk management framework which can meet the basic requirements in accordance with the international standards such as:

The banks’ strategies and methods of operational risk management must match together; methods of operational risk management practice and measurement must

be determined; Standard tools for identification, measurement, inspection, monitoring and reporting in the whole system must be integrated in the operational risk management program

To meet the aforementioned basic requirements, banks must identify proper strategies and methods of risk management; define roles, functions, responsibilities and powers of departments of the overall organizational structure; establish requirements for risk management practice; widespread in the entire system and unify operational risk management; and more importantly adopt

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management tools such as infrastructure inspection and risk control assessment through inquiries, collect data of operational risk events, analyze other data of losses outside the system, key risk indicators (KRI), analyze scenarios, risks and values at risk (VaR) and report and allocate risk-weighted capitals; thereby provide options to prevent operational risks such as insurance / risk transfer

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CHAPTER 3 : RISK MANAGEMENT AT VIETINBANK – HOAN

KIEM BRANCH

3.1 General introduction about Vietinbank Hoan Kiem Branch

Vietinbank Hoan Kiem Branch was established under the Decision 415/QD-VTB dated 01/10/1993 made by the General Director of Vietinbank

The institution has currently 298 employees, together with members of the Board

of Directors having lots of experiences in banking industry Having bachelor’s degree or postgraduate degree matching their working capacity, and with average age of 35, Vietinbank Hoan Kiem Branch 's employees are very active and creative at work

Vietinbank Hoan Kiem Branch operates on medium scale including 1 headquarter and 03 transaction offices of category 1 Vietinbank Hoan Kiem Branch aims to the modernization-oriented development; the headquarter at Building No 25 Ly Thuong Kiet street, and 10 transaction offices

As a Branch of Vietinbank, Vietinbank Hoan Kiem Branch; however, remains the independent accounting unit According to Article 30 of the Articles of Association of Vietinbank, Vietinbank Hoan Kiem Branch acts in the capacity of authorized representative for Vietinbank, has business autonomy as assigned by Vietinbank, is bound to the obligations and rights for Vietinbank Vietinbank shall

be ultimately responsible for the obligations arising out of the commitments of these units In addition, Vietinbank Hoan Kiem Branch is entitled to enter into economic contracts, to actively implement business operations, organization and personnel affairs in accordance with decentralized authorization of Vietinbank

Organizational chart of Vietinbank Hoan Kiem Branch:

Board of Management: comprises director and three deputy directors, being

responsible for the overall operations of the bank, assignment of staff and delivery

of directives, notices from superiors to Related departments/divisions

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Department of Business Planning: to deal with customers acting as enterprises

(enterprises and organizations having revenues > VND 20 billion) providing products /services related to Corporate customer: raising capital, credit, trade financing, foreign currency trading, electronic banking, etc

Retail Customer Dept.: to deal with customers acting as super micro enterprises

(having revenues < VND 20 billion) and customers acting as individuals or households providing products/services related to Corporate customer: raising capital, credit, trade financing, foreign currency trading, electronic banking services, etc

Transaction dept.: is a miniature Branch, including all operations such as raising

capital, credit, trade financing, accounting, treasury, etc within the authorization

Credit Support Dept (under Head office): to control credit approval records,

enter the records into information technology systems, prepare credit contracts, secure, notarize, register of security transactions for security contracts, warehousing secured property records, control disbursement records

Treasury Currency Dept.: to carry out treasury security management, cash

management as stipulated by the State Bank and Joint Stock Commercial Bank for Foreign Trade of Vietnam To advance and raise money for savings accounts and transaction points in and out the counters, make cash receipts and payments for enterprises having large amount of receipts and payments, carry out management

of original documents for trade finance

Accounting Dept.: To carry out direct transactions with customers related to

opening of accounts, making cash remittance home and abroad, accounting of credit, etc To fulfill works and duties related to financial management and internal expenditure at the Branch, provide banking services related to payment operations, carry out accounting of transactions, manage and take responsibilities for computer transaction system, manage cash accounts to every tellers, provide customer care services with regard to the use of bank products

Organization – Administration Dept.: To implement personnel organization

and training at the Branch in accordance with the policy, carry out work of

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administration and operations of business office at the Branch, carry out protection and security at the Branch

Computing Team: to manage and maintain computing information systems at the

Branch, carry out maintenance to ensure smooth operation of network and computer systems at the Branch

General Marketing Department: to give advice and submit to directors the

expected business plans; gather, analyze and evaluate the business activities conditions; make annual reports on Branch’s activities; and manage and settle problematic debts (debt of group 3 or higher and risk settlement)

3.2 Actual status of credit operation at Vietinbank Hoan Kiem Branch in 2014-2016

3.2.1 Products/services of Vietinbank Hoan Kiem Branch

The major activities of the Branch have been gradually improved and extended in order to provide following products and services:

Receiving deposits:

+ Receiving demand deposits and term deposit denominated in VND and foreign currencies

+ Receiving deposit accounts in various and attractive forms

+ Issuing notes and bonds

Loans and guarantees:

+ Short-term loans in VND and foreign currencies

+ Medium- and long-term loans in VND and foreign currencies

+ Import-export financing, negotiation of export documents

+ Co-financing and syndicate loan for significant projects, having long payback period

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+ Import-export collection, sight bill collection and acceptance collection

Payment service:

+ Domestic and international remittance

+ Encashment order, payment order, sec

+ Payment of salary for enterprises via liquidity and via ATM

+ Remittance payment, Western Union

Treasury Services:

+ Foreign currency transaction

+ Valuable instruments transaction

Card and electronic banking services:

+ Issuing and paying international credit card

+ ATM card services

+ Internet Banking, Telephone Banking, Mobile Banking…

Cross-selling service: to Vietinbank’s subsidiaries

+ Non-life insurance and life insurance services

+ Securities agent services

+ Financial lease agency services, gold trading services

3.2.2 Business performance of Vietinbank Hoan Kiem Branch in 2014-2016

Despite the significant violability of financial and monetary market condition in

2014, 2015 and 2016, the Branch has made many efforts and gained encouraging achievement, to be specific:

Table 3.1: Branch’s business performance over the years

Unit: billion VND

Comparison 2015/2014

Comparison 2016/2015 Value Ratio Value Ratio

Raised capital 1298 1606 4066 308 23.73% 2460 153.18% Total

outstanding loan

In which: 12.276 6.319 3.737 -5957 -48.53% -2.582 -40.86%

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Bad debt

Total income 155.961 222.589 308.437 66.628 42.72% 85.848 38.57% Total expense 120.044 175.230 223.287 55.186 45.97% 48.057 27.43% Realized profit 35.917 47.359 85.150 11.442 31.86% 37.791 79.80%

(Source: Report on business performance for 2015, 2016 VIETINBANK HOAN KIEM)

It can be seen from the Table 3.1 that, for the past year, business condition of Vietinbank Hoan Kiem Branch has been effectively improved, especially in 2016 Despite the significant violability of financial and monetary market condition in

2014, 2015 and 2016, the Branch has made many efforts and gained encouraging achievement

The current level of knowledge and professionalism at the Branch cannot meet customers’ essential needs in all aspects The Branch, therefore, always follows directives of VietinBank’s leaders, actively develops new products, and gives regular introduction about utilities of VietinBank products and services to customers, etc Additionally, actively improving service quality, reducing procedures, shortening transaction time, and improving working style of the staff dealing directly with customers are also effective ways applied by the Branch in order to make a good impression on customers The solidarity within the Branch is paid adequate attention together with high sense of responsibility so as for the Branch to overcome all difficulties and complete all tasks

Total capital Branch raised in 2015 reached VND 1606 billion, increasing by 23,73% compared with that in 2014; the figure in 2016 was VND 4066 billion, increasing by 153,18% compared with that in 2015 Total outstanding loan reached VND 900 billion in 2015, increasing 1,47% compared with that in 2014, and the figure in 2016 was VND 1388 billion, increasing 54,22% compared with that in

2015

Profit Branch realized in 2015 accounted for VND 47.359 Billion, increasing 31.86% compared with that in 2014, and the figure in 2016 made up VND 85.150 billion, increasing 79,80% compared with that in 2015 Since the revenue growth is greater than the expenditure growth, profit of the Branch is growing increasingly

In 2016, according to directives of Vietnam Joint Stock Commercial Bank for Industry and Trade, the Branch has set aside a risk reserve fund of 100% in accordance with assigned plan The analysis and evaluation of customers’s ability to pay debts are conducted regularly in order to take timely remedy The Branch also pays special attention to the recovery of NPL and credit risk liquidated obligations to minimize the NPL ratio to its lowest level as well as to create additional financial revenues from non-recurring earnings

It is the small scale of Branch's network compared to that of other competitors in the area that partially reduces the advantage of competition and approach to customers Actual status of credit risk management in 2014-2016 conducted by Vietinbank Hoan Kiem branch

Through research on risks for commercial banks and analysis of operations of Vietinbank system, and characteristics and operations of Vietinbank Hoan Kiem branch, it is found by the author that the two types of risk having profound and far-reaching impact on operations of Vietinbank Hoan Kiem branch are credit risk and operational risk The author, accordingly, sets the research scope of Actual status and solutions in Chapter 3 and chapter 4 within scope of the two above types

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3.3 Actual status of risk management at Vietinbank Hoan Kiem Branch

3.3.1 Actual status of credit operation

a) Loan classification by time

Overall, Branch’s outstanding loan has increased over the years mainly including short-term loans; meanwhile Medium- and long-term outstanding loans accounted for

a small ratio under volatility over time as follows:

Table 3.2: Condition and classification of loan by time

Comparison 2015/2014

Comparison 2016/2015 Value Value Value Value Ratio Value Ratio

Total outstanding

outstanding loan 597 623 924 26 4.36% 301 48.31% Medium- and

of total outstanding loans, increasing by VND 26 billion compared with the figure in

2014 In 2016 - VND 924 billion, accounting for 66.57% of total outstanding loans, increasing by VND 301 billion compared with the figure in 2015

Branch’s Medium- and long-term outstanding loans reached VND 290 billion in

2014, accounting for 32.69% of total outstanding loans; 2015 – VND 277 billion, making up 30.78% of total outstanding loans, droping by VND 13 billion compared with the figure in 2014; 2016 – VND 464 billion, accounting for 33.43% of total outstanding loans, increasing by VND 187 billion compared with the figure of previous year

It can be seen in the table that, there was a rise in Branch’s outstanding loans over the years, mainly in short-term loans Customers receive short-term loans from the Branch with the purpose of supplementing their working capital, to be specific:

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large enterprises aim to use the loan to reserve materials for production or to purchase agricultural products, etc., small and medium enterprises - to supplement to the capital; resident individuals - to purchase, build houses or buy cars in installment, etc Medium- and long-term loans are given to customers mainly to expand projects, invest in fixed assets and new projects, and repair residential houses, etc In 2016, there had been complicated socio-economic fluctuations, constant change in market interest rate; arising of large expenses by the Bank for project appraisal and large loans management, etc However, Branch’s medium- and long-term outstanding loans increased (+67, 51% compared with the figure of previous year), reaching 108.92% of 2016 plan It is partly because of Branch’s success in searching for projects, customers, and partly because of the disbursement of large projects in the previous year This shows that the Branch has been taking specific and effective measures to enhance the long-term credit efficiency, accordingly contributing to country’s industrialization and modernization

b) Loan classification by economic sectors

Along with the equalization process implemented strongly under State guidelines, Branch’s current loan structure has been given the proper redirection, in particular:

Table 3.3: Outstanding loan classification by economic sectors

Comparison 2015/2014

Comparison 2016/2015 Value Value Value Value Ratio Value Ratio

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having been effectively using loans of the branch, at the same time, search for and

actively give loans to new customers with feasible business projects Thus, Non-state

enterprises’ loan-to-total outstanding loan ratio has been very high, increasing from

93.12% in 2014 to 93.33% in 2015 and reaching 92.8% in 2016

Besides, the use of loans at State-owned enterprises appears to be inefficient; these

enterprises show many shortcomings and weaknesses in the business, together with

weak consumption of inventories and regular application for debt extension As a

result, the Branch finds hard to revolve business capital; credit quality diminishes,

etc Additionally, since State-owned enterprises’ mechanisms and management

regulations remain inadequate, and the amount of business loans sometimes up to

100% of the needs of the plan, the ratio of loans given to State-owned enterprises in

total outstanding loans at the branch is very low: 6.88% in 2014, dropped slightly in

2015 reaching 6.67% and rising to 7.2% in 2016

c) Loan classification by economic sub-sector

The Branch is currently implementing credit investment structure transformation

towards increasing investment in industry and construction sector, reducing

investment in fishery-agriculture-forestry sector, and focusing on improving Trade

and services sector, to be specific:

Table 3.4: Outstanding loan classification by economic sector

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Remark:

Based on comprehensive cooperation agreements with companies specializing in production of building materials, cement, and stone and large construction enterprises, in 2016, VietinBank Hoan Kiem Branch focused on serving strategic customers in important economic sectors such as: production of building materials

and construction

In 2014, fishery-agriculture-forestry sector’s outstanding loans reached VND 66.367 billion, accounting for 7.48% of total outstanding loans, in 2015 – VND 39.499 billion, accounting for 4.39% of total outstanding loans, decreasing by VND

27 billion compared with the figure of previous year; in 2016 – VND 58.390 billion, accounting for 4.21% of total outstanding loans and increasing by VND 19 billion compared with the figure in 2015

Industry and construction sector’s outstanding loans reached VND 510.903 billion in 2014, accounting for 57.6% of total outstanding loans; in 2015 – VND 533.051 billion, accounting for 59.23% of total outstanding loans and increasing by VND 22.148 billion compared with the figure of previous year; in 2016 – VND 821.638 billion, accounting for 59.2% of total outstanding loans and increasing by VND 289 billion compared with the figure of 2015

Trade and services sector’s outstanding loans reached VND 309.730 billion in

2014, accounting for 34.92% of total outstanding loans; in 2015 – VND 327.450 billion, accounting for 36.38% of total outstanding loans and increasing by VND 17.720 billion compared with the figure of 2014; in 2016 – VND 507.972 billion, accounting for 36.60% of total outstanding loans, increasing by VND 181 billion compared with the figure of 2015

In general, The Branch has currently implemented credit investment structure transformation in 2016 towards increasing investment in industry and construction sector, reducing investment in fishery-agriculture-forestry sector, and focusing on improving Trade and services sector: This is an appropriate transformation suitable

for general development orientation of Ha Noi capital

3.3.2 Credit quality and risk

Obviously, credit risk is best demonstrated by overdue debt Arising of overdue debt is inevitable with regard to credit relation Administrators are always interested