LV Thạc sỹ_The financial appraisal of investment projects in ACB thuy nguyen

Quality of financial appraisal of investment projects in commercial bank 71.2.1.. Financial appraisal of investment projects in credit activities ofcommercial banks 7 1.2.2.. Orientation

1.1 Overview about commercial banks 1

1.1.1 Definition of commercial banks 1

1.1.2 Characteristics of commercial banks 1

1.2 Quality of financial appraisal of investment projects in commercial bank 71.2.1 Financial appraisal of investment projects in credit activities ofcommercial banks 7

1.2.2 Content of financial appraisal of investment projects 12

1.2.3 The quality of financial appraisal of investment projects 181.3 Factors affect the quality of the financial appraisal of investment projects19

2.1 Introduction about ACB Thuy Nguyen 23

2.1.1 Background and history of ACB Thuy Nguyen 23

2.1.2 Organizational structure of ACB Thuy Nguyen 24

2.1.3 Real situation and results in operation of ACB Thuy Nguyen from 2009

2.2.2 Situation of financial appraisal of investment projects in ACB ThuyNguyen 33

2.3 Evaluating the situation of financial appraisal of investment projects in ACBThuy Nguyen 44

2.3.1 Results 44

2.3.2 Limitations 45

2.3.3 Causes of the limitations 46

CHAPTER 3: SOLUTIONS AND RECOMMENDATIONS TO IMPROVE THE QUALITY OF THE FINANCIAL APPRAISAL OF INVESTMENT

3.1 Orientation of granting project loans in ACB Thuy Nguyen and the necessary

of improving quality of financial appraisal of investment projects 48

3.2 Solutions to maintain and improve the quality of financial appraisal ofinvestment projects in ACB Thuy Nguyen 50

3.2.1 Solutions when appraising financial aspect of projects 50

3.2.2 Training and improving capability of appraisers 52

3.2.3 Improving quality of the sources of information 53

3.2.4 Continuously innovating technology 54

3.2.5 Coordinating between departments 54

3.2.6 Gathering experiences from other commercial banks 54

3.3 Recommendations 54

3.3.1 For the borrowing companies.54

3.3.2 For the Government, Ministries and other related agencies 563.3.3 For State Bank of Viet Nam 56

3.3.4 For Asia Commercial Bank 57

Appendix B

“First of all, I would like to thank National Economics University (NEU); California State University, Long Beach; especially Advanced Program, for conveying valuable knowledge during the last school years and providing me opportunities to know real nature of the banking activities through this internship

Secondly, during data collecting period, Mr…, a credit staff in ACB Thuy Nguyen branch, and his colleges helped me greatly, especially on collecting data Without this useful data, I wouldn’t finish this research For that reason, I would like to sincerely thank to him and his colleges.

Finally, I am heartily thankful to my supervisor, Associate Professor Doctor Tran Dang Kham, whose encouragement, guidance and support from the initial to the final level enabled me to develop an understanding of the subject Also, I would especially like to thank all my friends in Advanced Class for all their encouragement and intellectual support that has made this report possible Any mistake is my own responsibility.”

SBV State Bank of Vietnam

NPV Net Present Value

IRR Internal Rate of Return

LIST OF TABLES

Table 2.1: Distributing capital mobilization in ACB Thuy Nguyen by currency

(2009-2011) 29

Table 2.2: Investment categories of the project 35

Table 2.3: Summary of EP hotel’s estimated revenue 38

Table 2.4: Financial effectiveness of EP hotel project 39

Table 2.5: Summary of the solvency of VF Company 40

Table 2.6: Some financial indicators of VF Company 40

Table 2.7: Income statement of VF Company 41 Table A: Balance sheet of VF Company B Table B: Cost categories of EP hotel project C

LIST OF FIGURES

Figure 1.1: Process of granting banking credit 7Figure 2.1: Organizational structure of ACB Thuy Nguyen 25Figure 2.2: Situation of capital mobilization in ACB Thuy Nguyen (2009-2011) 28Figure 2.3: Status of credit balance in ACB Thuy Nguyen (2009-2011) 30Figure 2.4: Credit balance by type of customers in ACB Thuy Nguyen (2009-2011) 31Figure 2.5: Net profit of ACB Thuy Nguyen (2009-2011) 32

1 Rationale

In 2011 and first half of 2012 – those first years of implementing 5-yearDevelopment Plan 2011-2015, Vietnam had some general advantages such as:stable politic condition; economy has recovered after one year affected by world’seconomic crisis However, we also have to face several challenges: inflationincreases dramatically; instable macroeconomic; complicated exchange rate’sfluctuation; interest rate increases to a very high level Along with that, manycompanies especially real estate companies operate poorly and even go bankruptcy.This is a threat to banking activities, which forces bank to tighten credit policies,and in turn, makes companies worse because without capital from banking credit,they can’t continue operating and recovering

In this situation, Government has issued many policies, plans to recoverdevelopment of economic and control inflation such as: tightening monetarypolicies; restructuring banking system; proposing scheme of restructuring the wholeeconomic… About banking activities, Government directs to reduce ceiling ofmobilizing interest rate, which facilitates banks to reduce lending interest rate andstimulates corporates to borrow more to recover operation However, commercialbanks – the heart of the economy – must also have effective solutions in order tosufficiently and promptly provide credit to those corporates which have goodprofitability and effectiveness; and guarantee the risks for those investments atonce

In order to do that, banks have to wisely utilize their capitals, especiallythose medium and long-term capitals which finance investment projects becauseprojects usually have large scale, make a lot of jobs, bring huge advantages toeconomic-social Simultaneously, in order to guarantee those capitals can come to

the right projects which have good economic effectiveness and solvency, theimprovement of the appraisal, especially financial appraisal of investment projectsmust be focused more.

Notice the importance of this issue, in the internship period at ACB ThuyNguyen branch, I proactively researched documents and realities of projectsappraisal task at the branch Even though the branch was just established for 5years, it has become one of the most effective branches in the ACB’s system as itsgrowth of mobilization and credit always exceeds target, especially it hasmaintained the result of zero-non-performing-loan for 3 years in a row However, in

2012, when the economic condition is poor, the branch appears to have performing loans and high probability of not meeting the developing target of 2012.Therefore, the re-assessment of appraisal task at the branch is necessary

This thesis tried to answer three questions:

 What is the quality of financial appraisal of investment projects?

 What are the issues of the quality of financial appraisal of investmentprojects at ACB Thuy Nguyen branch?

 What are solutions and recommendations to improve the quality offinancial appraisal of investment projects at ACB Thuy Nguyen branch?

4 Research purpose

 Studying the basic theoretical issues of the commercial banks and thequality of financial appraisal of investment projects in commercial banks

 Analyzing and assessing the real situation of granting project loans and thequality of financial appraisal of investment projects in ACB Thuy Nguyen

 Proposing measures to improve the quality of financial appraisal ofinvestment projects in ACB Thuy Nguyen branch

5 Research Methodology

To learn comprehensively and accurately the quality of financial appraisal

of investment projects in ACB Thuy Nguyen, the methodology used toapproach and solve problems are the dialectical materialism, logic methodand comparative method

CHAPTER 1: OVERVIEW ABOUT THE FINANCIAL APPRAISAL OF INVESTMENT PROJECTS

IN COMMERCIAL BANKS

1.1 Overview about commercial banks

1.1.1 Definition of commercial banks

A commercial bank is a financial intermediary which collects credit fromlenders in the form of deposits and lends in the form of loans A commercial bankholds deposits for individuals and businesses in the form of checking and savingsaccounts and certificates of deposit of varying maturities while a commercial bankissues loans in the form of personal and business loans as well as mortgages Theterm commercial bank came about as a way to distinguish it from an "investmentbank." The primary difference between a commercial bank and its counterpart isthat a commercial bank earns revenue by issuing primary loans from its pool ofdeposits while an investment bank brings debt and equity offerings to market for afee Among its assets, including loans, a commercial bank holds a portfolio of othersecurities to generate proprietary income

1.1.2 Characteristics of commercial banks

1.1.2.1 Financial intermediary

Financial intermediary is an organization or individual which stand betweentwo or more parties attending in a financial context Usually, there’s one party asfinancial service provider and one party as the consumer The financial contexts thatcommercial banks act as intermediaries are:

- Capital intermediation (Credit intermediation): is seen as the most

important function of commercial banks While performing the function of acredit intermediation, banks act as a bridge connecting between peoplewhom are in need of capital and redundant of capital With this function,

commercial banks both have the role of borrower and lender; they earnprofits from the difference between mobilizing interest rate and lendinginterest rate and create benefit for all involved parties: borrowers anddepositors

- Liquidity intermediation: The bank matches the objectives of two main

groups in the economy: consumers and investors Consumers and house-holdsavers have a short-term horizon on which they want to optimize their utilityfunction Consumers prefer a smooth consumption pattern to minimizechanges in utility and hold liquid reserves to absorb temporary shocks inpurchasing power Investors need long-term financing for long-term projectsand may have short-term cash difficulties Banks provide deposit savingsaccounts that provide the liquidity insurance for the consumers At the sametime, banks use the savings deposits to provide the long-term illiquidinvestments This is possible when the amount of deposits a bank holds issufficiently stable over time by the law of large numbers

- Risk intermediation: Banks provide low-risk saving deposit products to

consumer savers and invest their deposits in more risky firm debt and otherassets This is possible by a good risk management and sufficientdiversification Banks hold sufficiently diversified portfolios in which therisk of an individual loan is reduced Not all loans will default at the sametime In general, banks transform different types of risk (credit, market,exchange rate, interest rate risk ) and repackage it into an appropriateproduct for all economic agents

- Information intermediation: As a go between savers and borrowers, banks

also provide market participants information necessary to make decisionsabout how much to save or borrow and when For example, banks oftencompete for deposits by increasing rates on certificates of deposits, givingincentive to savers to shop for the banks paying the highest rates.Conversely, borrowers can also shop for best rate on loans The cheaper a

bank's cost to acquire deposits or borrow money, the more aggressive it can

be in making loans

- Payment intermediation: In this function, commercial bank has the role of a

treasury for business institution and individual, performing the paymentaccording to the order of customers such as withdraw money from demandaccount to pay for the purchasing of goods and services or deposit moneyfrom sales and account receivable

1.1.2.2 Special business institution: monetary business

As a special business institution, commercial banks share some similarcharacteristics with other business institution in the economy Firstly, businessactivities of banks are so close to activities of trading companies in product cycleand consumption The difference is on the goods that banks trading: money andvaluable papers, which are special kinds of goods including currency, gold, gem,bonds, stocks… About function, banks do not directly attend to the production andcirculation of goods like general business institutions; they perform theintermediary function in credit, payment, perform financial services, financialconsult… Banks’ capital to do their monetary business mainly comes from capital

of depositors rather than their own equity capital By performing their intermediaryfunctions, banks hold in hands a huge wealth of society but do not possess it, andcan only utilize it under strict binding

1.1.2.3 Assets – Liabilities and equity of commercial banks

a Bank’s assets: comprise cash, money at short notice, bills and securities

discounted, bank's investments, loans sanctioned by the bank, etc Bank'scash in hand, cash with other banks and cash with central bank (RBI) are itsassets When a bank makes money available at short notice to other banksand financial institutions for a very short period of 1-14 days it is also treated

as bank's asset Apart from these items bank always make money available topeople on the form of loans and advances They are also become bank'sassets

b Bank's liabilities and equity: constitute five major items The share capital,

the contribution which shareholders have contributed for starting the bank.Reserve funds are the money, which the bank has accumulated over the yearsfrom its undistributed profits Deposits are the money owned by customersand therefore it is a liability of a bank There can be various kinds of depositsand recurring deposits Apart from these items a bank can borrow fromcentral and other commercial banks These borrowings are also treated asbank's liabilities

1.1.2.4 Products: Financial services

a Capital mobilization

In banking activities, equity capital usually makes up a small proportion oftotal capital Banks’ equity capital is formed by capital from Government’s budget,share capital, joint venture, accumulation of own fund … depend on the type ofbanks In order to expand the business activities, banks have to mobilize capitalfrom the economy such as taking deposit and saving from corporates and residents,issuing valuable papers, and in necessary cases, to meet the liquidity requirementbanks can also borrow from Central Bank or other banks and financial institutions

on the interbank market

b Credit

From the beginning, managements at commercial banks always look forchances to make loans for in need customers, see it as the most important task ofbanking, and in some cases, lending is guaranteed by the Government for somespecific credit need in special resident communities

Credit products in commercial banks are usually classified based on the type

of customers that are individuals and business institutions Among them, lending tobusiness usually has bigger scale and has more effect to the economic developmentsince corporates can finance to expand operation, create more jobs and bring more

value to its stakeholders as well as the whole economy According to Decision1627/2001/QD-NHNN of SBV, lending in financial institutions is classified as:

- Standby credit line loan

- Credit card loan

- Overdraft loan

c Other financial services

 Overdraft: Banks advance loans to its customer’s up to a certain amountthrough over-drafts, if there are no deposits in the current account

 Discounting Bills of Exchange: This is the most prevalent and importantmethod of advancing loans to the traders for short-term purposes Under thissystem, banks advance loans to the traders and business firms by discountingtheir bills

 Investment of funds: The banks invest their surplus funds in three types ofsecurities—Government securities, other approved securities and othersecurities

 Agency functions: Banks function in the form of agents and representatives

of their customers Customers give their consent for performing suchfunctions The important functions of these types are as follows:

- Banks collect cheques, drafts, bills of exchange and dividends of theshares for their customers

- Banks make payment for their clients and at times accept the bills ofexchange: of their customers for which payment is made at the fixedtime

- Banks pay insurance premium of their customers Besides this, they alsodeposit loan installments, income-tax, interest etc as per directions

- Banks purchase and sell securities, shares and debentures on behalf oftheir customers

- Banks arrange to send money from one place to another for theconvenience of their customers

 Miscellaneous functions: Besides the functions mentioned above, banksperform many other functions of general utility which are as follows:

- Banks make arrangement of lockers for the safe custody of valuableassets of their customers such as gold, silver, legal documents etc

- Banks give reference for their customers

- Banks collect necessary and useful statistics relating to trade and industry

- For facilitating foreign trade, banks undertake to sell and purchaseforeign exchange

- Banks advise their clients relating to investment decisions as specialist

- Bank does the under-writing of shares and debentures also

- Banks issue letters of credit

- During natural calamities, banks are highly useful in mobilizing fundsand donations

1.1.2.5 Activities are controlled

As derived from the important of banking system to the health and development ofthe whole economy, commercial banks are listed as one of the business institutionswhich are controlled strictly under rules and regulations of Central bank and theGovernment In other words, banking activities have to dynamically adapt tochanges in the environment especially economic condition and regulations Forexample, in recent years, due to the dramatic development of banking system inVietnam as well as the consequences of world financial crisis in 2008, SBV (StateBank of Vietnam) has issued a lot of adjustments, Decisions, Decrees… regulatingactivities of commercial banks to every little fluctuations in the market such as theadjustment of ceiling interest rates, required capital adequacy ratio, requiredreserves, rating commercial banks, restructure banking system…

1.2 Quality of financial appraisal of investment projects in commercial bank

1.2.1 Financial appraisal of investment projects in credit activities of

commercial banks

Credit activity plays an important role to the economy as well as banksbecause it brings almost all profits for banks High return high risk, credit activity isalso the most risky banking activity A loan, from the beginning to the end, followsthe process (for banks):

Figure 1.1: Process of granting banking credit

The default of the loan will directly affect the profit of the bank, and moreadversely, will be a threat to the solvency of the bank since the demand ofwithdrawing money from depositors might not be responded The default of loansnot just means banks lose capital but more precisely, borrower doesn’t pay backcapital and interest in time If banks have to extend the loan for customersfrequently, it will obviously affect the operation of banks since activities would notkeep track with expectation anymore Risks can arise from any phase, requiringbanks to carefully analyze in order to making the right decision: lend for whom,how much, how to lend… to guarantee the loan is safe and effective However, thephase of evaluating before granting loan (or credit analyzing) is the most important.Therefor the appraisal of projects (especially financial appraisal) is the veryimportant phase that banks must pay attention before granting a loan

1.2.1.1 Overview of investment projects

a Overview

Investment, according to the general idea, is the tradeoff of current resources

to perform a certain activity in order to gain specific results in the future that worthmore than what are paid to achieve these The specific results here might be capital,grey matter, natural resources, time … and expected benefits that are measurable(for example: the increase of production, profit …) or immeasurable (for example:the development of education, military, social issues …) For firms, it’s simple tounderstand that investment is to spend capital into production or business in order togain profits in future For the society, investment is understood as an activity ofusing capital in order to achieve positive effect for social economy, with higher goal

of developing the country In whatever aspect, we can also see the importance ofinvestment activities Properties and the complication of technology, financialconsequences and effects of investment activities require a careful preparation Thispreparation is represented by composing projects that means every investmentactivities must be performed according to projects in order to achieve wantedresults

So what is the investment project? Investment project is the aggregate ofparticular economic activities with specific goals, methods and medium in order toachieve wanted status Investment project was observed in various aspects:

- About form, investment projects is a document folder presentingsystematically details about operations and costs according to a plan inorder to achieve specific results and goals in the future This is also themedium that investors use to convince and receive financial supportsfrom Government, Government agencies, and financial institutions

- On management aspect, investment project is a tool to manage theutilization of physical capital, labors On the plan aspect, investmentproject is a tool that presents the detailed plan of an investment task ofbusiness or manufacturing, developing the society-economy, andbecomes the premise for investment decision Investment project is thesmallest particular activity in the general economic plan

In every way, an investment project must be specific and clear in goals Inother words, it must present the following main contents:

 Project’s goals: usually at the two-level goals:

- Direct goals: Specific goals that project must achieve in a particularframe and time

- Developing goals: Goals that project helps to achieve, developing goalsare identified in plan, program of economic and social development ofregion and nation Achievement of direct goals is the premise forachieving developing goals

 Project’s results: Specific outcome from project’s activities Results are thenecessary condition in order to achieve project’s direct goals

 Project’s activities: Works that project performs in order to transfer resourcesinto project’s results Each project’s activity brings a respective result

 Project’s resources: Necessary input in order to conduct the project

b Investment project’s classification

For the convenience of supervising, managing project, investment projectsare classified based on various indicators such as:

 By scale: Large, medium, small project

 By scope: Domestic or foreign project

 By time: short, medium and long-term, but almost all projects are mediumand long-term

 By contents and exclusive characteristic With projects of businessinstitution, they mainly focus on these two classification indicators:

- By contents:

 New investment projects: usually very large projects, related to newinvestment in order to create new products, independence with oldmanufacturing process

 Extending investment projects: to increase product ability as buildingnew manufactories, plants, assembly lines, provide more products(same type) to the market

 Upgrading investment projects (vertically): related to the change oftechnology, create more modern technology in the same organization

c Process of an investment project

The process of forming and conducting an investment project in any typealso has to go through specific stages (cycle of an investment project)

Based on investment aspect to observe the cycle as investment stages, aproject must be conducted through three stages:

- Preparing the investment: In this stage, they have to perform specificworks such as: researching and discovering investment opportunities,researching the pre-feasible aspect of projects, researching the feasibility,assessing and making decision (appraising project)

- Conducting the investment: Including: Completing procedures to carryout the investment, designing and provisioning the execution of project,testing, checking and taking over the project

- Running the investment’s results: Using different capacity over years Atthe end of the cycle, liquidating and evaluating the effectiveness of theproject

In three stages above, the first stage has the decisive voice in the success ofthe latter stages In the content of first stage, appraisal of investment projects is anindispensable phase in a project’s cycle It’s very vital for investor in order to give asolid decision of investing

1.2.1.2 Financial appraisal of investment projects in credit activities of

commercial banks

In the process of apprising investment projects, banks have tocomprehensively appraise in various aspects in order to get an objective view before

deciding to make loan Commercial banks with the role of lender, especially payattention about financial appraisal aspect of project, it has the decisive role in theappraising contents Credit activity is the most important activity of commercialbanks Total loans usually make up about 59% of total assets of a bank and 65-70%profits of a bank come from credit activities The success of a bank depends mainly

on conducting credit plan and credit success originated from credit policies ofbanks Among all types of banking credit, banks especially pay attention in projectloans since it required high amount of capitals, long term, high risk but high return.There’re so many risks in general credit activities as well as in project loans, arisingfrom many factors and can lead to the default of the loans Therefore, in deciding ofwhether rejecting or accepting the loans, banks might attach much importance to theanalysis of credit in general, as well as financial appraisal of the project Throughthe appraisal, banks can have a comprehensive view about projects including:assessing the requirement for total investment capital, capital structure and thesituation of utilizing capital, financial effectiveness as well as the solvency of theproject

With the aim of operation guaranteeing safety and profitability, banks onlygrant credits to projects that have the financial effectiveness, or in other words,projects which guarantee profits and the ability to pay back then banks can collectcapitals and interests

1.2.2 Content of financial appraisal of investment projects

1.2.2.1 Appraising total investment capitals required:

There’s a property of the project that it usually requires a large amount ofcapitals and utilizes them for a long term Before submitting for banks, totalinvestment capital has been determined, examined and approved by many agencies.However, banks still need to appraise again before granting credit because mistakes

in determining demand for total investment capital will lead to a huge waste of

capital, stickle the investment activities, and it even lead to severe consequences tothe investors.

Therefore, determining the reasonable total investment capitals required of aproject is necessary to banks Banks will appraise how the detailed total investmentcapitals are formed:

- Capitals invested in fixed assets: Capital invested in fixed assets usuallymake up a large proportion of total capital required for projects Fixedassets can be tangible or intangible For specify:

1.2.2.2 Appraising the sources of capital to finance the project

The sources of capital to finance the project include: Equity capital, creditsfrom commercial banks, subsidiaries from national budget, leasing, and othercapitals The task of appraising the sources of capital to finance the project is toexamine about quantity, maturity, proportion of sources of capital in totalinvestment capitals On the other hand, structure of capitals will affect thedetermining of reasonable cash flow as well as discount rate in order to calculate theNPV of the project

1.2.2.3 Appraising the financial effectiveness of the project:

The financial effectiveness of the project is evaluated by financial analysismethods on the cash flow basis of the project Cash flows of a project are expectedcash in and cash out that appearing in different points over the cycle of the project.When subtract all the cash in by the cash out, we can determine the free cash flow atthe different points of time The determination of free cash flow is based on net

income after taxes, depreciations, interest expenses and other adjustments whenthere’re differences in the capital structure of the project On the aspect ofcommercial banks, there’re something should be noticed about the determination ofcash flows:

- Capital structure: A project can be financed by different capital sources;therefore, cash flows will be adjusted to correspond with each type offinancing

- Discount rate is nominal or real: real discount rate equals nominal ratesubtract expected inflation

- Methods of calculating depreciations: Choosing methods to calculatedepreciation will affect the value of net income and depreciated expenses,thence, affect the scale of cash flows each year

- Risks: There’re many types of risk and they all affect the determination ofcash flows

- Supports from Government

- Income taxes

Financial calculating methods used to determine the financial effectiveness

of a project include:

- Net present value (NPV)

- Internal rate of return (IRR)

- Profitability index (PI)

- Payback period (PP)

1.2.2.4 Appraising the payoff plan of the project:

Payoff plan of a project is built based on the condition of each capital’ssource It arises from the stage of setting up the project when the specific conditions

of each source are not affirmed Banks when appraising will assess the rational ofthe payoff plan based on analyzing cash flows of the project Project’s revenue mustguarantee the payoff plan Banks calculate indicators in order to determine theschedule and ensure that the time to collect debt is not more than the effective time

of the project On those bases, both parties make an agreement about sources ofpayoff, how to pay off, interest rate, maturity, grace period …

1.2.2.5 Appraising financial condition of investors:

In order to have a more comprehensive and overall view about financialcondition and the feasibility of the project, beside the financial appraisal of projects,banks also have to appraise the financial condition of investors Banks usuallyemploy financial ratios in order to analyze financial condition of firms Financialratio was established to measure specific properties about financial condition andoperation of firms They can be classified into four categories as:

 Quick ratio: Companies with ratios of less than 1 cannot pay their currentliabilities and should be looked at with extreme caution Furthermore, if thequick ratio is much lower than current ratio, it means current assets arehighly dependent on inventory

b Asset management ratios

 Inventory turnover ratio: A ratio showing how many times a company’sinventory is sold and replaced over a period

 Days sales outstanding (DSO): DSO is a measure of the average number ofdays that a company takes to collect revenue after a sale has been made

 Asset turnover ratio: Asset turnover measure a firm’s efficiency at using itsassets in generating sales or revenue – the higher the number the better

c Debt management ratios

 Debt ratio: Debt ratio indicates what proportion of debt a company hasrelative to its assets The measure gives an idea to the leverage of thecompany along with the potential risks the company faces in terms of itsdebt-load

 Time-Interest-Earned (TIE) ratio: TIE measures a company’s ability to meetits debt obligations High TIE ensures interest payments to debt holders andprevents bankruptcy

d Profitability ratios

 Operating margin: Operating margin is a measurement of what proportion of

a company’s revenue is left over after paying for variable costs of productionsuch as wages, raw materials, etc

 Return on assets (ROA): ROA indicates what earnings were generated frominvested capital

 Return on equity (ROE): ROE measures a corporation’s profitability byrevealing how much profit a company generates with the moneyshareholders have invested

1.2.2.6 Appraising the project in risky conditions:

In reality, investment projects always have potential risks since plans madewhile analyzing projects are just forecasting calculations There’s no way to predictall the risks especially for the long-term projects Therefore, the financial appraisal

of investment projects in risky conditions is necessary for banks to make creditdecisions Banks must carefully examine and analyze risks of project in order toensure that projects’ risks are acceptable

a Break-even analysis method

Break-even analysis is a process of applying short-term financial riskanalysis tools in order to determine break-even point which presents break-evenquantity, break-even revenue, and break-even capacity

 Break-even quantity: quantity of output sold at which total revenue equaltotal costs (at which the operating income is zero)

QBEP Break-even quantity

FC Total fixed cost

V Variable cost per unit

P Price per unit

 The capacity’s safety: The capacity’s safety is determined by subtracting100% by break-even capacity The lower the break-even capacity, the higherthe safety of capacity, the less risky and the more effective the project

b Sensitivity analysis method

Sensitivity analysis is the analyzing of how the uncertainty in the output of aproject (numerical or otherwise) can be apportioned to different sources ofuncertainty in the project’s input

 Input and output of a project

 Change of the profitability

- Measured by the change in value of NPV, IRR or other profitabilityindicators

- The fluctuation of those indicators is analyzed respectively to thevariation of input and output under three state:

 Normal state: as corresponding to expectation

 Pessimistic state: Increase in input or decrease in output

 Optimistic state: Decrease in input or increase in output

- In risk analysis, pessimistic state must be paid attention to

 Principles of analysis:

- The core principle of sensitivity analysis is to determine the change ofprofitability indicators according to the change in some inputs or outputsdue to uncertainties of the future

- The financial effectiveness technics (NPV, IRR and other indicators) aresimilar to those which stated above; the changes are only made to thevalue of annual expenses or benefits

 Sphere of application: Sensitivity analysis is applied to assess the long-termrisk of projects when there’re significant changes of some important inputssuch as: raw materials, work-in-process, cost of labor… Sensitivity analysis

is conducted easily by the help of Microsoft Excel on computer

1.2.3 The quality of financial appraisal of investment projects

Quality in general is defined as a collection of properties of an entity orobject which make the entity or object able to satisfy a set of requirements Even thequality of project appraisal is something quantitatively immeasurable and somehowmore abstract than quality of a product, it still shares the same definition Since it’svarious in views and scopes, each appraiser with different goals will have differentunderstanding of the quality of appraisal

 For companies which carry out the project: A high quality appraisal is theone that provide companies sufficient and reliable information for thedecision making

 For State Agencies (Agencies which have authority in granting investmentlicense): Quality of financial appraisal of investment project is theacceptance, and approval of projects which are financially feasible, sociallyeffective

 For sponsors (here are commercial banks): Quality is shown on the basis ofobjective, and comprehensive analyzing and assessing projects, which helpsbank make right decisions on financing the projects that are financiallyeffective and able to pay back as planned In certain aspects, quality offinancial appraisal of investment projects is expressed as credit quality ofprojects.

1.3 Factors affect the quality of the financial appraisal of investment projects

1.3.1 Subjective factors

1.3.1.1 Ability of appraisers

The poor quality of the project appraisal is not only caused by objectivefactors but also subjective factors (human) As the national economic grows, theprofessional ability of commercial banks’ staffs as well as appraisal staffs must beimproved

Experiences from employment history help appraisers be firmly in makingcredit decision An experienced staff can easily determine the facts while contactswith customers Through the exchange of information with other staffs, they canaccumulate more experiences, and improve the appraisal results

1.3.1.2 Process and method of appraisal

Appraisal task always follows a specific process There’re many aspects of aproject need to be appraised such as: borrowing conditions, financial ability of thecompany, the feasibility of the project… Each appraising contents allow bank toassess a specific aspect of the project Aggregating all the contents, bank can have acomprehensive assessment of the project In the appraising process, it’s not possible

to appraise all the contents simultaneously Therefore, credit specialists have toassess through stages, use result of a stage as a basis for analyzing latter stages Forinstance, after determining free cash flow of a project, specialists conduct the

calculation of indicators that reflect the effectiveness of the project and lending,payoff plans Consequently, if the appraisal tasks follow a comprehensive andscientific process, the appraising results will be better and closer to reality.

There’re many customers with different purpose of borrowing, which leading

to the difference of scale and type of loans Therefore, it’s not rational to patternupon an appraisal process for a type of project since it will waste time and effortinto the unnecessary contents It’s essential to have a comprehensive aggregatedprocess of appraisal as the basis to form specific processes for each type of projects.That will ensure the consistency and effectiveness of appraisal task

1.3.1.3 Information and the processing of information

Credit specialists conduct the appraisal based on the collected information.Therefore, quality of the appraisal depends on the quality of information Thesufficient and accurate information is a necessary condition for a good appraisal.Two important problems about this issue should be stated here are source ofinformation and quality of information Information can be collected from manysources such as direct information from customers; information from authoritativeagencies; information from credit information center and risks management center;information from partners of customers

After collecting information, credit specialists face other important problemthat is how to process that information promptly and effectively In order to do that,banks have to perform the analysis, assessment, and storage of informationfrequently and scientifically

1.3.2 Objective factors

1.3.2.1 From companies which carry out project

Projects’ profiles which provided by companies are an important basis for theappraisal of bank Therefore, the poor quality of elaborating, appraisal, and conductprojects of companies will negatively affect appraisal quality of banks since they

have to extend the analyzing, calculating and recollecting appropriate information.Especially in the situation as Vietnam’s companies have very poor management andcompetitive ability, the business risks (the conduct of project doesn’t accord to theplan) are higher.

On the other hand, orientations, policies of developing economic by region, sectorare not crafted specifically, synchronously and stably, which is also a risk inanalyzing, accepting and granting projects

1.3.2.3 Legal environment

Defects in the reasonability, synchronization and effectiveness of legaldocuments of State affect negatively to the quality of appraisal (as well as theeffectiveness of projects) For example, the conflict and overlap of legal documentsabout the adjustment of financial management mechanism, the ineffectiveness ofstatistical accounting… change the feasibility of projects overtime and hinder banks

in assessing, forecasting risks, limit the collection of accurate information (forexample, a company might have various financial statement for different purposes)

CHAPTER 2: REAL SITUATION OF THE FINANCIAL APPRAISAL OF INVESTMENT PROJECTS

IN ASIA COMMERCIAL BANK THUY NGUYEN

2.1 Introduction about ACB Thuy Nguyen

2.1.1 Background and history of ACB Thuy Nguyen

Asia Commercial Bank (ACB) was granted its operation license No0032/NH-GP on April 24th 1993 by the Governor of State Bank of Vietnam and thelicense No 533/GP-UB on May 13th 1993 by People’s Committee of Ho Chi MinhCity On June 6th 1993, ACB was officially operated With strong competences andexperiences in the business, the founders of ACB shared a business principle:

“Safely and effectively monitor the development of the bank” that had become theadhesive material for the solidarity of the employees

In November 2006, ACB was listed on the Ha Noi Securities Trading Center.Since then, ACB quickly expanded its operational network, opened new branchesand trading offices all over the country Up to December 31st, 2010 the chartercapital of ACB is 9,376,965,060,000 VND with 280 branches and trading offices atthe developing economic regions all over the country The total personnel of ACBare over 7200 persons with 93% having bachelor or higher degree

Thuy Nguyen, the biggest rural district of Hai Phong City, lies beside thehistorical river Bach Dang with an important position as the north gateway andseaport of Hai Phong Thuy Nguyen also has a very various terrain from plain with

a dense river system to hill, limestone mountain… All of those advantages bringmany opportunities for Thuy Nguyen to develop a diversified economy whichincludes agriculture, heavy industry, small scale industry as well as commercial,service and tourism In addition, since the inauguration of two Japanese’ technology

modern cable stayed bridge, Kien Bridge and Binh Bridge, in 2005, Thuy Nguyenwas connected with other parts of the city, received huge amount of investments tobecome a new developing economic region of Hai Phong, and is recognized as one

of the richest rural district of Northern Vietnam

The realization of the potential of Thuy Nguyen to become new industry andcommercial center of Hai Phong as well as Northern Vietnam along with the policy

of expanding banking system of ACB’s board of director, ACB Thuy Nguyenbranch was established according to the Decision No 850-TCQD/PTCN.06 by theChairman of the Board on May 17th, 2007 The branch was officially operated onOctober 19th, 2007

Address of the branch: 6-8 Da Nang Street, Nui Deo Town, Thuy Nguyen,Hai Phong

Through the 5 years of development, ACB Thuy Nguyen has continuouslyreceived certificate of merit from Headquarter for its excellent performance

2.1.2 Organizational structure of ACB Thuy Nguyen

ACB Thuy Nguyen is a small scale branch with the number of totalpersonnel is about 21 persons Therefore the organization structure is simplified.Director directly manages and supervises the activities of the whole branch ACBThuy Nguyen focuses mainly on the primary banking activities such as credit,trading, and mobilizing funds

a Organizational Structure

Figure 2.2: Organizational structure of ACB Thuy Nguyen

b Functions of each departments

 Directors:

- Focusing on further stabilizing the bank’s business activities, deployingthe government and the state bank’s various policies for maintainingstability and liquidity

- Controlling the general activities of the branch and guiding plan for eachdepartment

- Giving advices and providing suitable policies, strategies for each certainperiod for the operation of branch.

 Corporate banking division (serves companies, organizations andinstitutions)

- Trading with customers to raise fund in both VND and foreign currency

- Carrying out works that related to credit and managing them base on thestrategies and plans of ACB

- Implementing direct advertising, marketing and selling of bankingproducts and services to organizational customers

- Acting as key seller to supply banking services to customers (enterprises)

In addition,

- Performing the credit tasks and processing the credit transaction in order

to ensure compliance with current regulations of the ACB Thuy Nguyen

- Receiving and processing the proposed loan, guarantee and other forms

- Monitoring during and after the credits are granted

 Individual banking division:

- Selling and running retailed banking services

- Establishing sale plan to individual customers

- Contacting, appraising and receiving borrowing documents

- Collecting information, analyzing customers, loans

 Trading department

- Receiving deposit of organizations, institutions and retailed customers

- Raising capital from population, performing certain types of credit andbanking services as assigned by the Board of Directors

- Taking deposits from inhabitants in both VND and foreign currencyunder the form of savings, promissory notes, bonds and so on

- Granting credit for economic institutions and individuals within themandate of the Branch Director

- Implementing banking services including money transfer services,payment cards, foreign exchange, the exchange of cash, checks and so on

- Performing other duties that regulated by State Bank, ACB, authorized bythe General Director of ACB, allowed by the Branch Director.

- Ensuring the security and safety in the branch

 Financial and accounting department

- Implementing transactions with customers, tasks and works that related tofinancial and accounting activities

- Managing expenses that occur in the operation of the branch

- Suggesting and guiding financial and accounting methods

- Providing banking services that concern to payment transactions,

- Giving suggestions to Broad of Directors to make plans, analyze currentoperation

- Making annual report for the branch

2.1.3 Real situation and results in operation of ACB Thuy Nguyen from

2009 to 2011

a Capital mobilization activities

Mobilizing capital operation has become one of the most important tools thathelp the Board of Directors manage and use capital resource in the suitable way.With the extensive development orientation, ACB Thuy Nguyen has implemented avariety of products and services that meet population’s demands, or other economicorganizations in both VND and foreign currencies ACB Thuy Nguyen has dividedcustomers into two sub-groups: individuals and institutions, from that it has appliedthe fitting method of operation to take advantages of each group As a result, it canbring the best benefit for ACB Thuy Nguyen and warrant net income for the branch

Figure 2.3: Situation of capital mobilization in ACB Thuy Nguyen (2009-2011)