CC W14-W16

Problem Accounts & Remedial Accounts Management & Credit Review

Problem Accounts

• borrowers who struggle to meet their repayment obligations due to financial difficulties, negligence, or intentional non-payment

• these accounts require special attention and tailored recovery strategies to minimize financial losses and maintain ethical collection practices

Common Types of Accounts

1. slow-paying accounts

2. delinquent accounts

3. disputed accounts

4. fraudulent accounts

5. bankrupt accounts

6. write-off accounts

Delinquent Accounts

borrowers who have missed payments beyond the due date but may still be recoverable

Disputed Accounts

debtors who challenge the validity of the debt due to billing errors or contractual disagreements

Fraudulent Accounts

cases where borrowers intentionally misrepresent financial information or never intended to repay

Bankrupt Accounts

borrowers who have declared bankruptcy, making debt recovery more complex

Slow-Paying Accounts

those who consistently delay payments but eventually settle their dues

Write-Off Accounts

debts deemed uncollectible and removed from financial records

Identifying problem accounts early allows creditors

to implement appropriate measures, such as structured repayment plans, negotiation techniques, or legal actions when necessary

Effective management of problem accounts helps

maintain lender stability while providing debtors with fair opportunities to resolve their obligations

Generally, lending problems may be caused by

lapses in loan packaging and/or customer and related factors

Causes of Lending Problems

1. Loan Packaging

2. Customer-related Factors

3. Related Factors

Loan Packaging

• neglect of basic criteria & standards

• excessive emphasis on project earnings and setting aside the capability of client to run the project

• unclear/unspecific loan purpose thereby allowing disbursements not related to the project

• sources of repayment is not tangible and quantifiable

• weak second way out

• inappropriate amortization schedule

• giving in to competitive pressures resulting to soft credit terms/conditions and sacrificing standards

Customer-related Factors

• dominance by one or few officers of business/project operations

• dependence on one product line resulting to inflexibility to changes in the market

• inability of management to cope with changes in the industry

• short-term borrowings used for the acquisition of fixed assets and/or non-earning projects

• inappropriate timing of projects and inadequate financial planning

• lack of professionalism of officers and management

Related Factors

• failure to detect early warning signals

• inadequate loan agreement provisions and/or other terms and conditions

• unrealistic high targets on loan release resulting to deviation from credit standards

• neglect of basic credit criteria

• lapses in loan implementation/non-compliance to approved terms and conditions

Account Officers should always

take note of the symptoms of weakened accounts since their early recognition is critical to the formulation of appropriate courses of action

Early Warning Signals of Weakened Accounts

1. Violation of Loan Agreement Provisions

2. Internal Problems

3. Financial

4. Non-financial indicators

Violation of Loan Agreement Provisions

• unremitted collection

• lapses in installment payments

• diversion of funds/loan proceeds

• waiver or violation of safeguards against defaults

Internal Problems

• failure to submit financial statements on time

• management shake-up

• emergency/unscheduled BOD reorganization/meetings

• willful default among members

• disappearance of officers/assets

• marked difference between projections and actual operations

• returned checks to suppliers and creditors

• failure to submit financial statements on time

Financial

• low sales turnover

• diminishing margin of profitability

• decline in inventory turn-over

• build-up of receivables vs. sales/total assets

• increase in liabilities

• decline in net worth

• competitive operations

• deteriorating cash position

• increasing collection period

• rise in inventory costs as a percentage of total assets without justifiable reasons

• marked decline in current assets as a percentage of total assets

• increasing bad debts

• rising sales, falling profits

• rising operating expenses as a percentage of sales/revenue

Non-financial indicators

• unreasonable request for substantial increase in credit

• investment in non-related ventures of business

• fast turn-over of employees without justifiable reasons

• problems or squabble among and between stockholders or owners

• flurry of insolvencies or bankruptcies in the field of business or area of operation of the debtor or customer

• habitual issuances of bouncing checks

• buying at big volumes and selling at cost or at a loss

• substantial or repeated rumors about the unsatisfactory credit habits of the debtor

• sudden unexplainable decrease in manpower

• poor appearance of the office or place of business

• dishonesty of officers or employees of the debtor

• new laws adversely affecting a debtor’s business

• insufficiency or lack of insurance coverage

Remedial Account Management

• focuses on recovering problem accounts and minimizing financial losses due to delinquent debts

• involves structured strategies to nurse substandard or doubtful accounts back to health and prevent them from turning into bad debts

Objectives of RAM

1. Nursing substandard or doubtful accounts back to health

2. Regularizing credit and documentation deficiencies

3. Strengthening credit extensions

4. Skip tracing and customer location

5. Anticipating debtor defenses

Nursing substandard or doubtful accounts back to health

• a firm or bank sometimes does absorb such accounts, maybe due to faulty credit processing and evaluation, or due to the exigencies of the business, e.g.

• firm must sell its goods which are about to become obsolete or the bank has excessive loanable fund, or that because of business reverses, management or even acts of God

• debtor has subsequently become a substandard or doubtful risk

Regularizing credit and documentation deficiencies

• hurried credit decisions sometimes had to be made, or for some reason or the other

• there is, therefore, the need to gather more credit information on the debtor to find out exactly his credit worthiness – and credit rating

• should he turn out to be doubtful or substandard risk, then remedial measures must have to be applied to save the account from turning into bad debt

• sometimes, due to oversight or haste, the supporting documents of loan or credit extension are defective or deficient or even absent

Strengthening credit extensions

• enhancing loan security by requiring additional collateral, guarantees, or stricter lending policies

Skip tracing and customer location

• one principal headache of collection is tracing the missing customer

• customer may be missing intentionally or unintentionally

• if the disappearance is intentional to defraud creditors, then the task becomes doubly difficult

• sometimes, though, a customer is missing, not intentionally but because of transfer of residence or office

Anticipating debtor defenses

preparing for potential disputes or legal challenges to ensure smooth collection processes

Requisites for Effective Remedial Management

1. Specific Unit

2. Adequate Manpower

3. Policies, Systems, and Procedures

Specific Units

1. organizational structure

2. defined responsibility

3. adequate authority

Adequate Manpower

1. qualifications

2. selection

3. training and development

Policies, Systems, and Procedure

1. criteria for account take-over

2. process management guidelines

Remedial Process

1. Account Review

2. Capability Analysis

3. Strategy Formulation

4. Strategy Implementation

Account Review

• determine weaknesses (financials, documentation, collaterals)

• determine cause of problem (consult, categorize client)

Capability Analysis

• evaluate alternatives

• strengths and weaknesses

• possible support (internal, external)

Strategy Formulation

• what ought to be done

• how to achieve it

• approvals/time frame

• commitment/determination to achieve what ought to be done

Strategy Implementation

• monitoring

• revisions

• timing

• record arrangements

• reports

Remedial Measures

strategies and activities that compromise an overall rehabilitation plan to help the client meet its maturing obligations and improve lender’s chances of recovery

Remedial Measure may include

1. Loan Restructuring

2. Compromise Settlement

3. Off-setting/Linkage

4. Strengthen Collateral Credit Position

5. Assumption of Mortgage

6. Foreclosure

Loan Restructuring

any change in the principal terms and conditions of the loan in accordance with a restructuring agreement setting forth a new plan of payment on a periodic basis

Circumstances that Warrant Restructuring

1. admission by the borrower than can no longer comply with the present amortization schedule due to business reverses

2. occurrence of unfavorable events that are beyond the control of the borrower and which will greatly impair the cash flow or liquidity of the project like natural calamities, fire, labor and management problems

Loan restructuring should be done only if

the borrower still has the capacity to pay his obligations and needs a set of new repayment terms

Sources of repayment must be

validated and the results of which must be included in the restructuring proposal

Compromise Settlement

• negotiated agreement where a debtor and creditor agree on a reduced payment or modified terms to resolve outstanding debt

• helps prevent prolonged disputes and legal action while ensuring partial recovery of funds

• it covers lump sum payment through cash payment and generally includes penalty charges

Off-setting or Linkage

• involves the provision by the borrower of services and/or goods as loan settlement

• goods/services shall be used to liquidate the borrower’s obligation

• can be beneficial in cases where the debtor lacks liquidity but has valuable resources that can be used to offset their obligations

Strengthen Collateral Credit Position

involves the securing of additional collateral to secure the loan and/or continuing Guaranty and/or JSS by a more viable and/or acceptable party as further security loan

Assumption of Mortgage

• involves the assumption of mortgage by a third party, e.g. a private individual, partnership, company, etc. wherein he assumes the obligation of the borrower

• often used when the original borrower is unable to meet their financial commitments, allowing another individual or entity to assume the debt under agreed terms

Foreclosure

• legal process where a lender takes possession of a property due to the borrower's failure to meet mortgage obligations

• last-resort measure used when all other recovery efforts, such as restructuring or negotiation, have failed

Credit Review

• integral part of a total system for managing the credit portfolio

• overriding concern is to help develop correct credit practices and procedures to minimize credit risks

Primary Goals of Credit Review

• assess the management of credit risks

• identify areas in the credit operation that need improvement and recommend corrective action

• instill awareness adherence to credit standards and practices

• provide inputs for credit policy formulation

• provide feedback on the overall credit risk assessment

Scope of Credit Review

1. Portfolio Quality

2. Process Quality

3. Organization and Staffing

4. Loan Recovery

Assessment of two major credit aspects

The major credit standards to properly evaluate credit practices are as follows:

1. Portfolio Quality

2. Process Quality

Portfolio Quality

• during a credit review

• quantitative assessment of the portfolio mix

• past due rate

• assessment of loan portfolio to determine its overall health, risk exposure, and performance

• helps lenders identify trends, potential risks, and areas for improvement in credit management

Key Aspects of PQ

1. Loan Performance Analysis

2. Risk Assessment

3. Credit Policy Compliance

4. Portfolio Diversification

5. Forecasting & Strategic Adjustments

Loan Performance Analysis

evaluating repayment rates, delinquency levels, and default risks

Risk Assessment

identifying high-risk accounts and assessing their impact on financial stability

Credit Policy Compliance

ensuring loans adhere to established lending guidelines and risk management protocols

Portfolio Diversification

reviewing the mix of loan types, industries, and borrower profiles to minimize concentration risks

Forecasting & Strategic Adjustments

using historical data to predict future portfolio performance and adjust lending strategies accordingly

Process Quality

assessment of the procedures in the marketing and administration of accounts based on established credit policies and procedures

Categories of PQ

1. Target Market

2. Credit Initiation and Analysis

3. Loan Documentation and Disbursement

4. Credit Administration and Documents Management

5. Problem Recognition

Target Market

review determines if the account solicitation activities are systematically undertaken considering the prescribed target market

Credit Initiation and Analysis

review will focus on the quality of evaluation and analysis of credit risks that results in the extension of credit

Loan Documentation and Disbursement

• involves the verification of the appropriateness, adequacy and completeness of loan documentation, as well as compliance to all pre-release conditions of loan and collateral documentary requirements

• sees to it that all availments, renewals, extension and other credit-related transactions are properly approved

Credit Administration and Documents Management

review validates the effectiveness of the credit monitoring and supervision and support system

Problem Recognition

review assesses the ability to anticipate adverse factors affecting credit risk and detects potential problem accounts, as well as timely reporting of such events to the proper authorities

Organization and Staffing

• organization and deployment

• coaching and training

• credit review of organization and staffing focuses on evaluating the structure, personnel, and processes involved in credit management

• ensures that the credit department operates efficiently and aligns with best practices in risk assessment and debt recovery

Key Aspects of OS

1. Staff Adequacy & Expertise

2. Delineation of Functions

3. Account Assignment

4. Training & Development

5. Process Optimization

Staff Adequacy & Expertise

assessing whether the credit team has sufficient personnel with the right skills and experience

Delineation of Functions

ensuring clear roles and responsibilities among credit officers, analysts, and collection specialists

Account Assignment

reviewing how accounts are distributed among staff to optimize workload and efficiency

Training & Development

evaluating ongoing education programs to enhance credit risk management skills

Process Optimization

identifying gaps in workflow and recommending improvements for better credit administration

Loan Recovery Assessment

• credit review on loan recovery assesses how effectively a lender manages delinquent loans and recovers outstanding debts

• helps lenders refine their strategies to minimize losses and improve repayment rates

• focuses on two major aspects

2 Major Aspects of Credit Review on LR

1. Remedial Management

2. Normal Management

Remedial Management

• generally shows the action plan as well as results of recovery measures on distressed accounts

• assessment of this block includes the evaluation of work-out plans, actions on vital documentary deficiencies, tracking of remedial actions and actual results of recovery programs and actions

Normal Management

• an evaluation of the processes in the administration of problem accounts

• review deals basically on the credit monitoring and supervision activities, anticipation and recognition of problem