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Early warning in managing non-performing assets

Non-performing assets (NPA) are one of the biggest challenges facing the global banking system and, particularly, Indian banks.

Overview

This issue of Non-performing assets (NPA) is likely to get worse due to the overall economic slowdown impacting most customer segments across banks’ portfolio like MSMEs (micro small and medium enterprises), large corporates, and agriculture to name a few.

Although we believe there are a number of gaps in the current credit capabilities of Indian, Continental European and Latin American banks, the matter needs to be approached in a phased manner by focusing on a select few capabilities initially.

Some of the capabilities that should be prioritized include:

  • External data acquisition for credit assessment models

  • Early warning framework and collateral management for credit monitoring

  • Soft landing and care programs for default management

  • Centralized recovery and collection.

Through multiple engagements across large global banks, Accenture believes that implementing an early warning solution (EWS) can help substantially reduce banks’ NPAs.

Accenture’s five step approach combines a bank’s existing and new data sources within a strong analytical framework, and helps banks develop a custom approach that is specific to their portfolio needs.

Background

Non-performing assets (NPA) are one of the biggest challenges facing the global banking system and, particularly, Indian banks. The extent of the challenge for nationalized banks is that non-action is no longer an option.

This issue is likely to get worse due to the overall economic slowdown impacting most customer segments across banks’ portfolio like MSMEs (micro small and medium enterprises), large corporates, and agriculture to name a few.

Based upon our work across geographies, we believe that banks will require a comprehensive approach to NPA management that includes not just curative but also preventive actions across the credit life cycle.

Analysis

Although we believe there are a number of gaps in the current credit capabilities of Indian, Continental European and Latin American banks, the matter needs to be approached in a phased manner by focusing on a select few capabilities initially.

Some of the capabilities that should be prioritized include:

  • External data acquisition for credit assessment models

  • Early warning framework

  • Collateral management for credit monitoring, soft landing

  • Care programs for default management and centralized recovery and collection.

Through multiple engagements across large global banks, Accenture believes that implementing an early warning solution (EWS) can help substantially reduce banks’ NPAs.

A comprehensive early warning framework that included identifying the right customer segment, understanding the data landscape, formulating early warning triggers and creating a risk mitigation plan, resulted in 15-20 percent reductions in NPAs among some of the large global banks we have worked with.

An early warning solution can also help banks irrespective of scale, scope and region:

  • Reduce the new NPA flows (and a resulting reduction in NPA stock).

  • Maximize the recovered value and reduce the Exposure At Default with timely alerts.

  • Better utilize capital.

Recommendations

Building an early warning solution (EWS) requires banks to adopt a custom approach that is specific to their portfolio needs.

Accenture’s five step approach that combines a bank’s existing and new data sources within a strong analytical framework offers an effective solution:

  1. Portfolio Prioritization: To derive maximum value from an early warning solution banks should prioritize select customer segments (MSME, Corporate, Retail) within their portfolio.

  2. Data Landscape: A comprehensive EWS solution should utilize a mix of the bank’s internal data as well as external data elements.

  3. Early Warning Trigger: For an effective early warning framework, it is important to study the pre-default behavior of customers and define triggers that could identify a problem before a customer faces severe credit challenges.

  4. Composite Risk Index (CRI): Once the relevant triggers are shortlisted, each of these triggers will be assigned an overall impact score. A composite index score will be generated for each customer based on type of triggers and number of triggers hit.

  5. Risk Mitigation Action Plan (RMAP): An early warning framework is not effective unless banks are ready to integrate it with their customer management processes and up-skill their credit officers. Identifying a customer in distress will yield results only if the Bank Credit Officer clearly understands the action that he/she is required to take.

Authors

Amit Gupta is a managing director of Accenture Finance and Risk Services in New Delhi, India. He has more than 15 years of risk consulting and capital markets industry experience delivering strategic solutions in a wide variety of client situations.

Gupta has extensive experience in assessing market risk and credit risk capabilities and helping clients enhance their risk governance, risk processes, analytics and implementing risk systems. He helps clients in their efforts to increase their organizational focus on proactive risk measures and better leverage their enterprise risk management capabilities.

Arup Sinha is a senior manager of Accenture Finance and Risk Services based in Gurgaon, India. He has more than 14 years of global industry and consulting experience in the financial services, energy, automotive, metals, capital goods and diversified conglomerate sectors.

He specializes in transformational programs across credit, market and operational risks, and with a focus on financial risk, risk analysis and modeling, Basel II and Basel III regulations, and works with clients to address their risk management requirements.

Bharat Mittal is a senior manager of Accenture Finance and Risk Services. Based in Gurgaon, India, he has more than 10 years of consulting and industry experience in the financial services and risk management spaces.

Specializing in credit risk management, institutional risk, due diligence and strategy, and with a strong current focus on developing Basel II credit risk models and scorecards, and credit risk frameworks, Mittal supports banks in their efforts to manage their regulatory agendas.

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Financial Services