I certify that this dissertation is my own work. I have read and understood the University code of ethics and regulations concerning plagiarism and the penalties to be incurred if my work is deemed unauthentic. I am willing to allow my work to be used as a sample thesis or reference document by either Coventry University or GTUC for future students.
Signed: …………………. Date: …………….. (Amponsah – Doku Aaron)
Signed: …………………Date: ……………….. (Mr. Kwaku Duah Berchie)
It is a great pleasure to me to thank the many people who in different ways have supported my graduate studies, and contributed to the process of writing this thesis. First, I would like to thank my supervisor, Mr. Kwaku Duah Berchie for his selfless and insightful directions. I also thank Dr. Robert Baffour for his thesis clinic which really helped me in writing the thesis. I like to express my gratitude to Mr. Peter Annan Aborhey, who was my guidance angel during the period of writing the thesis. I also thank Miss Mary Boatemaa of Youth Center for typesetting the thesis. My sincere thanks also go to the B.O.D, Management and Staffs of Suame Circuit Co-op. Credit Union Ltd for allowing me to use their company for this study. I thank my wife Mrs Deborah Amponsah – Doku for her unflinching support and understanding during my studies. My deepest appreciation and gratitude goes to my mother, Mrs Margaret Amponsah Doku, and my sister, Euphegenia Selma Darkoah Amponsah for their financial support and encouragement throughout my studies. Finally, above all, I thank the Almighty God for His grace, wisdom, understanding and guidance throughout the studies.
This work is dedicated to my late father, Mr. Robert Amponsah Doku, my mother, Mrs Margaret Amponsah Doku, my wife Deborah and my three lovely children; Samuel, Nhyira and Nana Akosua.
The study sought to assess the credit risk management practices of Non-Banking Financial institution in Ghana, taking a cursory look at management approach undertaken by Suame Methodist Cooperative Credit Union to strategically position itself in response to the ever increasing competition in the industry; so as to identify the credit risk management processes and systems at Suame Methodist Cooperative Credit Union; ascertain the challenges of risk management practices in Suame Cooperative Credit Union.; and investigate the extent to which risk management impacts on the performance (profitability) of Suame Cooperative Credit Union. Using the purposive sampling method for the selection of the sample size of twenty members of staff (comprising both managerial and non-managerial grade) questionnaires were used for the collection of primary data. This study established the needed frame work of financial institutions and tends to bring into view the challenges as well as the daily routine processes of the loan portfolio and its managements.
The study realized that the inability to properly manage portfolios under one’s care results in huge losses to the credit union, and subsequently set aside as bad debts after several attempts to recover fails; thereby resulting into higher the risk of credit management the lesser the performance of the credit union, since its performance is dependent on the general portfolio divestiture. It is recommended that, Suame Cooperative Credit Union should diversify their loan portfolios into different packages that will suit their clients by taking the financial standing of their clients into consideration. The cooperative credit union should develop a comprehensive plan to monitor the loans given out. This will help to increase the rate of repayment and minimize default rate of clients as well as help facilitation of fishing out unscrupulous clients from their faithful customer
TABLE OF CONTENT
TABLE O FCONTENTv
LIST OF TABLES viii
LIST OF FIGURESix
1.1Background to the study4
1.4Objectives of the study7
1.5Significance of the study7
1.6Limitations of the study9
1.7Scope of the study10
1.8Organization of the study10
2.1 The credit risk of financial institutions12
2.1.1Concept and definition of credit risks12
2.1.2Categories of credit risks13
2.2Credit risk strategy16
2.3Credit risk policy, identification and measurement17 2.3.1Credit risk policy17
2.3.3Credit rating systems and risk measurement20
2.4Financial analysis in assessing application21
2.5Credit risk control mechanisms22
2.6Credit Risk Management24
2.7Brief History of Credit Union Development in Ghana26
3.2Sources of data30
3.2.1 Secondary data source30
3.2.2Primary data source31
3.3Data collection method31
3.5Sample and sampling procedure32
3.6Data collection instrument33
3.7Administration of questionnaire34
3.8Data analysis plan35
3.9Limitation of the methodology35
3.11Reliability and Validity37
DATA ANALYSIS, PRESENTATION AND DISCUSSION OF RESULTS38
4.1Bio – data of staff38
4.3Other measures of credit assessment46
4.3.1Credit standards and analysis46
4.4Responds from Managers50
4.4.1Types of risk existence in the credit facilities50
4.4.2Challenges of risk management practices51
4.4.3Impact of risk management on performance51
4.4.4Credit risk management implementation52
4.4.5Review of business result53
SUMMARY OF FINDINGS, CONCLUSION AND RECOMMENDATIONS54
5.1Summary of findings54
5.1.1Credit risk management process and systems54
5.1.2Challenges of credit risk management practices to staff54
5.1.3Impact of credit risk management on performance55
5.3.1Thorough market research of loan product design56
5.3.2Proper and adequate loan appraisal56
5.3.3Monitoring loans after disbursement57
5.3.4Diversification of loan portfolio57
5.4Areas for further research58
LIST OF TABLES
Table 3.1Guide: sample size and technique for selecting respondents33 Table 4.1Age and gender38
Table 4.2Loan criteria42
Table 4.3Loan management43
Table 4.4Credit standards and analysis46
Table 4.5Credit control47
LIST OF FIGURES
Figure 4.1Number of years with company40
Figure 4.2Criteria used to approve loan41
Figure 4.3Measures for reducing risk45
(BOG, 2007) expatiated that Microfinance which is not a new concept in Ghana, has always been the common practice for people to save and/or take small loans from individuals and groups within the context of self-help in order to engage in small retail businesses or farming ventures. Anecdotal evidence suggests that the first credit union in Africa was probably established in
Northern Ghana in 1955 by the Canadian Catholic missionaries that were there at the time. However, Susu, which is one of the current microfinance schemes in Ghana, is thought to have originated in Nigeria and spread to Ghana from the early 1900s. Over the years, the microfinance sector has thrived and evolved into its current state thanks to various financial sector policies and programmes undertaken by different governments since independence; such as the provision of subsidized credits in the 1950s, establishment of rural and community banks (RCBs), the liberalization of the financial sector and the promulgation of PNDC Law 328 of 1991, that allowed the establishment of different types of non-bank financial institutions, including savings and loans companies, finance houses, and credit unions etc. ( Asiama & Osei, 2007). According to Simanowitz and Brody (2004), microcredit is a key strategy in reaching the Millennium Development Goals and in building global financial systems that meet the needs of the poorest people. Littlefield et al, (2003) stated that microcredit is a critical contextual factor with strong impact on the achievements of the MDGs. Microcredit is unique among development interventions: it can deliver social benefits on an ongoing, permanent basis and on a large scale. Notwithstanding skeptics expressed, particularly by Hulme and Mosley (1996) that most contemporary scheme is less effective than they might be; in that microcredit is not a panacea for poverty-alleviation and that in some cases the poorest people have been made worse-off; microfinance has emerged globally as a leading and effective strategy for poverty reduction with the potential for far-reaching impact in transforming the lives of poor people. Hassan (2006) reiterated the points emphasized by (Yunus, 1994 & 1998; Seibel, 1998; Getubig, 2000) that microcredit has emerged in the late seventies as a new strategy to overcome the structural shortfalls of the earlier development strategies in tackling the large residues through the provision of financial and other productive resources to the poor as their basic thrust. The residues that were unable to capitalize on the strategies of growth and development were basically human resources both male and female with varying ages with limited educational achievements and are poorly resource-based. However, their demographic existence in the face of harsh economic, social and political adversaries accompanying those phases of development model had been due to their cumulative survival skills facilitating their subsistence income. A
small loan amounting to less than US$2.00 or Taka 120.00 to 42 poor women in a remote village of Jobra, Chittagong in Bangladesh, brought about impressive impact towards increasing household income by utilizing their survival skills to make bamboo stools, revolutionized the philosophy of development especially on poverty reduction (Yunus, 1998). Hassan (2006) again emphasized by quoting Yunus, (1998) and Khan (2000) that financing scaling up of income generating survival skills with banking on economic empowerment of poor women have become the latest strategy, a model that effectively tackles the residues of the national development. The poor have limited access to the job market due to limitation of job specific technical and educational requirements and skills. With the poor lacking in collateral assets, they could not benefit from banks and financial institutions for access to capital to scale-up their income-generating survival skills and acquire other productive resources The lifeblood of each lending institution is its loan portfolio, and the success of the institution depends on how well that portfolio is managed. Therefore, the study of microfinance institution’s loan portfolio based on characteristics of the loan applicants’ economic and social conditions, and commonly used lending practices within the industry served by the institution needed further assessment when it’s not a secret that these institutions are experiencing a high debt recovery rate. While each loan applicant is unique, categorizing them into larger groups with common characteristics helps lending institutions make prudent loan portfolio decisions and further guides the strategic planning process; ensuing that each category has its own borrowing requirements and position in the credit marketplace. 1.1Background to the Study
Credit creation is the main income generating activity for every financial institution (both banking and non-banking). However, this activity involves huge risks to both the lender and the borrower. The risk of a trading partner not fulfilling his or her obligation as per the contract on due date or anytime thereafter can greatly jeopardize the smooth functioning of institutions business. On the other hand, a financial institution with high credit risk has high bankruptcy risk that puts the depositors in jeopardy. In recent years, credit risk management at MFI has come under increasing
scrutiny. Banking and non-banking consultants have attempted to sell sophisticated credit risk management systems that can account for borrower risk (e.g. rating), and, perhaps more importantly, the risk-reducing benefits of diversification across borrowers in a large portfolio. In Ghana, the central bank has taken several steps towards financial institutions’ using internal credit models to devise capital adequacy standards (Anin, 2000). .According to (Kashyap et al, 1999) banks stand ready to provide liquidity on demand to depositors through the checking account, overdrafts among others; and to extend credit as well as liquidity to their borrowers through lines of credit; thus, banks have always been concerned with both solvency and liquidity. Traditionally, banks held capital as a buffer against insolvency, and they held liquid assets – cash and securities – to guard against unexpected withdrawals by depositors or draw downs by borrowers (Saidenberg and Strahan, 1999). Hennie (2003) states that despite innovations in the financial services sector over the years, credit risk is still the major single cause of Financial Institutions (FI) failures, for the reason that “more than 80 percent of a financial institution’s balance sheet generally relates to this aspect of risk management”. The goal of credit risk management, as presented by the Basel (1999a), is to maximize a FI’s risk adjusted rate of return by maintaining credit risk exposure within acceptable parameters. Consistent with principles of managing portfolio, it is requested that both the credit risk arising from individual creditors or transactions and the risk of the entire portfolio should be managed, and the relationship between credit risk and others must be considered as well (Xiuzhu, 2007).
Comptroller’s Handbook (2000) aptly stated that sustainable provision of financial institutions is undermined by lax in the credit standards and the non-commitment to the granting of loans on sound and collectible basis; and more importantly, lack of adequate information on lenders increases risk and contributes to loan losses and credit failures. Commercial banks are struggling with formulation and implementation of a suitable and sustainable risk management framework, particularly credit risk management. The Ghanaian FIs’ customer services are still in their infancy and MFIs’ especially
Cooperative Credit Union revenue depends heavily on lending activities and credit growth is central to any financial institutions’ profit. Furthermore, the control work from the central bank, though playing a growing role, has not been protective enough. Access to credit information and history is very limited.
The inefficient and ineffective credit assessment ruined with poor credit management has led to the abysmal performance of the several MFIs, and Cooperative Credit Unions are no exception; thereby making access to credit by very credible businesses to suffer unduly by paying very high interest rates. Furthermore, the laxity in monitoring and supervision of credits puts depositors’ money in jeopardy.
Therefore, this study focuses on examining the extent to which cooperative credit unions have been managing their credit risks, what tools or techniques are at their disposal and to what extent their performance can be augmented by proper credit risk management policies and strategies and its impact on their performance, with particular reference to Suame Methodist Cooperative Credit Union.
In view of the above problem of the study the following research questions were posed: 1. What are the credit risk management processes and systems at Suame Cooperative Credit Union? 2. What are the challenges of risk management practices at Suame Cooperative Credit Union? 3. What is the extent to which risk management impacts on the performance (profitability) of Suame Cooperative Credit Union?
1.4Objectives of the Study
The general objective of the research was to assess the risk management of Non-Banking Financial institution in Ghana, zeroing on Suame Methodist Cooperative Credit Union, taking a cursory look at management approach undertaken by these institutions to strategically position themselves in response to the ever increasing competition in the industry. The specific objectives were;
1. To identify the credit risk management processes and systems at Suame Cooperative Credit Union. 2. To ascertain the challenges of risk management practices in Suame Cooperative Credit Union. 3. To investigate the extent to which risk management impacts on the performance (profitability) of Suame Cooperative Credit Union. 1.5Significance of the Research.
The research work is justified and significant because of the important role the risk management play in the assessment of credits by the societies affiliated to the Cooperative Credit Union Association (CUA) of Ghana more especially at Suame Cooperative Credit Union. Academics, opinion leaders and other interested observers have thrown more light on the subject, and in certain occasions mounting up a working solution to arrest perpetually this problem. The study is expected to impact on financial analysts and experts, management of banking industry, academia and the general public. Academic purpose
The output of this study will contribute to knowledge and literature in the subject area under investigation; and serve as a base for further research for students, teachers, researchers and consultants interested in the topic who wants to conduct similar studies into other related fields. This study would serve as a platform to enhance their work. It will serve as a rich source of literature to other researchers, and the limitation of this research may be built on by others studying on the same topic. It is also hoped that findings from this research would confirm or refute the existing knowledge about the risk management effectiveness in the banking industry, especially the Suame Cooperative Credit Union. Management of Suame Cooperative Credit Union
It will also provide a framework for handling and offering the appropriate risk management strategies to the management of Suame Cooperative Credit Union. Thus, the significance of the study is to draw the attention of all players in the industry, management of Suame Cooperative Credit Union in particular to the importance of risk management assessment. The credit personnel of the bank would become aware of the problems and armed with the
recommendations, be in a better position to solve them. Findings from the study are expected to help the society to have a better insight into its risk management practices and the ideal procedures that can be applied to achieve results. It would also assist other organizations with similar circumstances the opportunity to decrease their risk management through the recommendations. Policy makers (Regulators)
It is expected to draw attention of policy makers to the need to ensure strict adherence to policies that would promote improvement in risk management practices of the MFIs in Ghana. The study will further help oversight agencies especially the CUA in regulating the activities of the societies in the area of risk management. The study could also inform national and corporate policies. The research would enable the government to be aware of the challenges facing non-banking financial institutions as far as credit risk management are concerned and to find the appropriate steps in addressing them.
1.6 Limitations of the study Research Methodology
This study was limited to the assessment of risk management practices of non-banking financial institutions in Ghana. It was also a case study limited to the Suame Methodist Cooperative Credit Union. The study also has the following limitations:
Financial constraints: This poses difficulty in terms of incurring costs in respect of printing, photocopying as well as binding. Time: The study will be undertaken within timeframe of 3 months while combining academic work with this study as well as his regular profession as a manager of a financial institution. Data collection: The distribution and collection of questionnaires could be time consuming because of the location and dispersed nature of the respondents. Also, the reluctance of management of the financial institution to release information which will enrich the study and also establish a strong validity and reliability serves as limitation to the study.
1.7Scope of the study
The study was conducted within the framework of evaluating the risk management practices at Suame Cooperative Credit Union in order to ensure minimum losses are attained in credit risk management of the society so as to gain competitive advantage in the industry. This was prompted by recent credit delinquencies being experienced by the Society. The study covers the Financial Reports and any other Loan Reports of Suame Cooperative Credit Union for the four (4) year period of 2008 – 2011. A case study approach of one particular credit union was adopted; and would not cover other players to reflect the entire industry response to the impact of loan portfolio on performance to gain competitive advantage in microcredit sector. The advantage of using a case study approach is that it allows in-depth research and also gives the researcher the ability to reveal the way a multiplicity of factors have interacted to produce the unique character that is the subject of research. However, the result would not be generalized but its findings would be placed in the relevant context of the individual society studied.
1.8 Organization of the Study
The study is structured into five main chapters: Chapter One: It captures the background of the study, the problem statement, objectives, and research questions and the significant of the study. Chapter Two: This examines the review of both the theoretical and empirical literature. Chapter Three: This section looks at how the research is going to be conducted by looking at the research methodology. Chapter Four: It looks at the analysis and discussion of the data. Chapter Five: The chapter five which is final chapter looks at summary of the findings, conclusions, recommendations and areas for further research.
The chapter undertakes a review of literature on credit risk management and the evaluation criteria for an effective credit risk management. The various credit risk management practices and the phenomenon of non-performing loans and its effects on profitability of financial institutions were undertaken.
2.1The Credit Risk of Financial Institutions
2.1.1 Concept and Definition of Credit Risks
Financial institutions face several risks in their daily activities, which is the cost of doing business. Credit risk is defined as the potential that a bank borrower or counterparty will fail to meet its obligations in accordance with agreed term (Basel, 1999a); the Monetary Authority of Singapore (2006) as cited by Xiuzhu (2007) defined it to be the “risk arising from the uncertainty of an obligor’s ability to perform its contractual obligations”, where the term “obligor” refers to any party that has either direct or indirect obligations under the contract. Regarding the importance of this kind of financial risk, Kaminsky and Reinhart, as cited by Jackson and Perraudin (1999), think of it to be the largest element of risk in the books of most banks and if not managed in a proper way, can weaken individual banks or even cause many episodes of financial instability by impacting the whole banking system. Thus to the banking sector, credit risk is definitely an inherent and crucial part.
2.1.2 Categories of Credit Risk
According to Xiuzhu (2007) in order to gain a better understanding on the nature of credit risk, it is necessary to introduce the types of credit risk involved in financial activities before any further discussion. Concerning the categorizing of credit risk, different authors have expressed various criteria. Credit risk has two components namely business risk and borrower risk (Bhattacharya, 1997). He intimated that Business risk is made up of systematic risk and unsystematic risk. Systematic risk is exogenous and therefore unavoidable. Unsystematic risk is unique risk (internal), which is independent of political, economic and other factors. According to Bhattacharya (1997, p 638) in terms of portfolio analysis, unsystematic risk accounts for 70% of the total risk and the remaining 30% is systematic risk. It can be concluded that the bulk of the total risk is internal and therefore can be managed and controlled. Conversely, the Borrower risk focuses on the attention of the lender on the promoters and management of the enterprise. Lending still continues to be a personal business to a large extent and mutual confidence and clear understanding are the bases of good
lending (Bhattacharya, 1997 p 675). Bhattacharya emphasize that the combination of the five C’s makes a prospective borrower creditworthy; these are: Character, it is ultimately the character that determines the creditworthiness of a borrower. A good borrower is expected to maintain a code of conduct with regard to disclosing the business affairs with the banker. This may often go beyond the financial information. Capacity, the repayment capacity of a borrower is estimated through a detailed cash flow analysis of the business; Capital, this is the net worth of the company and provides that important cushion to withstand shocks coming from adverse changes in external and internal environment of the business; Condition the lender should be aware and alert to the changing economic and financial environment the borrower operates; and Collateral, this should not drive lending decisions; the best security of a lender is a thriving business on which the appraisal should focus. These five C’s are used as tools in the credit approval process for assessing credit risk, and these lending criteria are usually formulated in a strategy which is oriented on a solid risk organization. Hennie (2003) points out that the three main types of credit risk are consumer risk, corporate risk and sovereign or country risk, while Culp and Neves (1998) consider realized default risk and resale risk to be the two types of credit risk. Horcher (2005), on the other hand, defines six types of credit risk, including default risk, counterparty pre-settlement risk, counterparty settlement risk, legal risk, country or sovereign risk and concentration risk. However, since legal risk is more likely to be considered as independent or belonging to operational risk nowadays (HSBC, 2006 ; Casu et. al, 2006) and concentration risk, together with adverse selection as well as moral hazard, is more reasonably to be thought of as an important issue in managing credit risk rather than a type of the risk itself (Duffie and Singleton 2003), in the following illustration, only the best four kinds of credit risk mentioned by Horcher (2005) will be touched upon. a. Default Risk
According to Horcher (2005), traditional credit risk relates to the default on a payment, especially lending or sales. And a likelihood of the default is called the probability of default. When a default occurs, the amount at risk may be as much as the whole liability, which can be recovered later,
depending on factors like the creditors’ legal status. However, later collections are generally difficult or even impossible in that huge outstanding obligations or losses are usually the reasons why organizations fail. b. Counterparty Pre-Settlement Risk
Pre-settlement risk arises from the possibility that the counterparty will default once a contract has been entered into but a settlement still does not occur. During this period, a contract has unrealized gains, which indicates the risk. The potential loss to the organization depends on how market rates have changed since the establishment of the original contract, which can be evaluated in terms of current and potential exposure to the organization (Horcher 2005). c. Counterparty Settlement Risk
According to Xiuzhu (2007) citing Casu, et al (2006), settlement risk is a risk typically faced in the interbank market and it refers to the situation where one party to a contract fails to pay money or deliver assets to another party at the settlement time, which can be associated with any timing differences in settlement. Horcher (2005) points out that the risk is often related with foreign exchange trading, where payments in different money centers are not made simultaneously and volumes are huge. The case of the small German bank Bankhaus Herstatt, which received payments from its foreign exchange counterparties but had yet to make payments to counterparty financial institutions on the shutting down date, can serve as a typical example for the failure caused by settlement risk (Heffernan 1996).
d. Country or Sovereign Risk
Country risk arises due to the impact of deteriorating foreign economic, social and political conditions on overseas transactions and sovereign risk refers to the possibility that governments may enforce their authority to declare debt to external lenders void or modify the movements of profits, interest and capital under some economic or political pressure (Casu, et al, 2006). Then as Horcher (2005) has concluded, since evidence shows that countries and governments have temporarily or permanently imposed controls on capital, prevented cross-border payments and suspended debt repayments etc, problems arise for issuers to fulfill obligations in such environment;
also financial crisis may precipitate sometimes. 2.2 Credit risk strategy
The very first purpose of a financial institution (FI) credit strategy is to determine the risk appetite. Once it is determined the FI could develop a plan to optimize return while keeping credit risk within predetermined limits (Das et al., 2005). A credit decision is based on a trade-off between credit risk and the reward for the lender; a balance should be achieved between risk and return with the ultimate goal to optimize risk reward trade-off. It is essential that FI’s give due consideration to their target market while formulating credit risk strategy. The credit procedures should aim to obtain an in-depth understanding of the FI’s clients, their credentials and their businesses in order to fully know their customers.
Das et al. (2005) mentioned that the credit risk strategy should clearly define the organization’s credit appetite, risk tolerance in relation to credit risk, pricing and the acceptable level of risk reward trade-off for its activities on various client segments and products, economic sectors, geographical location, currency and maturity. Important is that the overall credit risk exposure is maintained at prudent levels and consistent with the available capital. In the strategy continuity in approach and cyclic aspect of country’s economy and the resulting shifts in composition and quality of overall credit portfolio should also be taken in consideration.
2.3 Credit Risk Policy, Identification and Measurement
2.3.1Credit Risk Policy
For the execution of the credit risk strategy there must be a balanced relation between the credit decision criteria (5 C’s), legislation and credit risk instruments. Financial institutions (FI) should have a credit risk policy document that should include risk identification, risk measurement, risk grading/aggregation techniques, reporting and risk control/mitigation techniques, documentation, legal issues and management of problem facilities (Das et al., 2005). The senior management of the FI should develop and establish credit policies and credit administration procedures as part of the overall credit risk management framework and get those approved from board. These policies and procedures should provide
guidance to the staff on various types of lending. The policies should express a bank’s or credit union underlying mission, values and principles.
Das et al. (2005) further mentioned that credit risk policies should provide detailed and formalized credit evaluation/appraisal process. The policies should provide risk identification, measurement, monitoring and control and define target markets, risk acceptance criteria, credit approval authority, credit origination/ maintenance procedures and guidelines for portfolio management.
In order for these policies to be effective this should be communicated to branches/controlling offices, so that all dealing officials clearly understand the FI’s approach for credit sanction and should be held accountable for complying with established policies and procedures. These policies are only effective if they are clear and known on all levels of the organization and are revised periodically. Deviations should be communicated to the senior management and corrective measures should be taken. Further the policy should clearly spell out roles and responsibilities of units/staff involved in origination and management of credit.
2.3.2 Risk identification
Financial Institutions (FI’s) are confronted with information asymmetry. Asymmetric information is a situation where one party does not know enough about the other party to make accurate decisions because there is inequality in information (Mishkin, 2010). Inequality in information creates problems in the financial system on two fronts: before the transaction is entered and after. The role of information’s processing in bank intermediation is a crucial input. Through information gathered from the applicant FIs are able to identify credit risk involved in the transaction.
The FI has access to different types of information in order to manage risk namely, hard information and soft information. The hard information is described as external via public information such as balance sheet data, rating, credit scoring. This information is quantitative and verifiable. Soft information is also described as internal via Financial
Institution-borrower relationship (judgments, opinions, notes, reports), is qualitative and non verifiable, therefore susceptible to manipulation; but produces more precise estimation of the debtor’s quality. Soft information is therefore a source of both moral hazard and adverse selection since there is a party with unknown information from the other party. It is a potential driver of organizational modifications in the FI in order to limit the moral hazard problem (Godbillon-Camus et al., 2005). Godbillon-Camus et al. (2005) mentioned that there are three types of dimensions that allow us to distinguish hard information form soft information, which are the following: Nature: hard information is also rather “backward looking” (e.g. balance sheet data) as soft information is rather “forward looking” (e.g. business plan). Collecting method: collection of hard information is impersonal, and it doesn’t depend upon the context of its production (hard information is therefore exhaustive and explicit), as collecting soft information is personal and includes its production and treatment context. Cognitive factors: subjective judgment, opinions and perception are absent in hard information, whereas they are integral components of soft information.
Godbillon-Camus et al. (2005) describe several advantages regarding hard information, of which the main advantages are that these are at low cost, easily collected, easier comparable and verifiability and therefore non manipulability.
2.3.3 Credit Rating Systems and Risk Measurement
Credit rating systems provide a road map to the entire credit process. The two most common credit ratings lenders used are internal and external ratings (ratings provided by public rating agencies). Internal ratings are based on historical customer information relative to the credit relationship that a borrower has with the financial service entity. According to Colquitt (2007) rating systems have developed to provide two basic components that are essential to the credit process and risk management practices, which are: To assign the credit risk grades by ranking transactions according to the perceived credit risk To group credit to distinguish among possible outcomes by quantifying the default risk and loss estimates
All transactions have some level of default risk the assumption is that the degrees of risk can only be identified through credit grades that distinguish the different default frequencies. As described by Colquitt (2007) the following three reasons have contributed to the trend of greater reliance on rating systems as the primary source for credit risk identification and monitoring: As a measurement of asset quality, credit rating systems have improved the precision and effectiveness of managing credit risk exposure and made the process more efficient and less time consuming A conceptual framework is provided for transactions and facility structures by summarizing risk and measurable outcomes of credit default loss. Is a portfolio monitoring tool; risk rating systems can also be used to meet regulatory requirements such as by monitoring exposure concentration limits, allocating loan loss reserve, and managing capital requirements.
2.4 Financial Analysis in Assessing Application
Financials are important source of information for FIs to assess the performance and prospects of a credit applicant. The financial analysis is used to predict expected returns and assess to risk associated with those returns. Primary concerns are the short term liquidity and long term solvency (Horngren et al., 2006). The financial analysis is important to get information whether the client is able to meet its obligation and generate sufficient profit from operations. FIs, especially banks are interested in the borrowing entity’s future profitability. The value of analyzing prior period financial statements is that trends in sales, operating expenses and net income often continue, so that financial statement analysis of past performance is often a good indicator of future performance (Horngren et al., 2006).
Through the financial analysis the bank gets information about the debt service capacity, operational efficiency and the financial stability of borrowing institutions. The financial performance of corporations is commonly analyzed by means of financial ratio analysis. Coyle (2000) mentioned four areas of performance that are important in this analysis, namely: Liquidity; is there enough cash for short term obligations
Profitability; is operating profit sufficient to meet repayment obligations Financial gearing; is the company adequately leveraged
Activity; is the working asset utilize efficiently
Coyle (2000) described that financial ratio analysis is used extensively for credit analysis, but has some limitations. He mentioned that simple ratio analysis does not provide much guidance of credit risk and that the interpretation of ratios is subjective and depends on the lender’s judgment. The indications from one ratio might be contradicted by those from another ratio and that credit analyst might not have any guidance as to relative importance of each ratio. He mentioned further that for “lend not and lend decisions” ratio analysis does not usually produce a clear yes or no answer for the lender. Taking these limitations of financial ratios into account one should agree with Godbillon-Camus et al. (2005) that a combination of hard and soft information is more adequate than hard information only.
2.5Credit Risk Control Mechanisms
There are many instruments/tools applied for managing credit risk in financial institutions. As Bodla et al. (2009) noted in their research among bank in India the following tools are used: Credit approval techniques, the bank should evolve a multi-tier approving system, where loans are approved by a committee comprising of at least 3 or 4 officers Prudential limits should be laid down on various aspects of credit such as bench mark for ratios, borrowers limit, exposure limits and maturity profile of loan book Risk rating
Loan review mechanism
Banks are using more than one instrument for managing credit risk. Other activities for managing credit risk are industries studies (profiles), periodic plant visit, and development of MIS and annually review of accounts. Wenner at al. (2007) mentioned among rural financial institutions in Latin America that these institutions are relying on the following techniques to manage risk: Expert based, information-intensive credit
technologies wherein repayment incentives for clients and performance incentives for staff play important roles, and information acts as a virtual substitute for real guarantees are being used to reduce risk A number of diversification strategies (geographic, sectoral, commodity) are being used to cope with risk Portfolio exposure limits
Excessive provisioning is being used to absorb and internalize risk
According to Norden et al. (2008) checking accounts are potential sources of information with the advantage that it represents private, continuous, timely and almost costless and hard information. It reveals information about both debit and credit payments, which is the key determinant of assessing the debt capacity. This information can be used to monitor credit risk and to predict default of the borrower. Early warning indications that are observed significantly before internal credit rating changes are of high importance for banks (Nakamura, 1993 cited by Norden et al. 2008).
2.6Credit Risk Management
Risk management of financial institutions represents all policies and procedures those financial institutions have implemented to manage, monitor and control their exposure to risk (Dedu and Nechif, 2010). Basis of a sound credit risk management is to identify existing and potential risks inherent in lending.
In general measures to counter such risks include management policies and credit risk parameters to be controlled in credit risk. In order to prevent insolvency credit risk should be properly controlled. In this regard it is necessary to adopt an adequate management which leads to the increase of shareholders value, and policies and procedures should be in place and strictly enforced by the senior management of the financial institutions.
The primary concern is the ability to earn profits while also ensuring that an organization has adequate regulatory capital for economic losses and shareholders’ requirements (Colquitt, 2007). The process of credit assessment relies on information provided by the borrower and has three main
targets: Identifying and controlling risks by determining the borrower’s probability of repaying the debt, Identifying a borrower’s primary source of debt repayment that will be available to repay an extended credit obligation, and Evaluating the probability that a secondary repayment source will be available in the event that the primary source becomes unavailable.
According to Bagchi (2003, cited by Bodla) the following basic considerations are the basic elements of credit risk management, namely: Risk identification; banks should not only recognize and understand credit risk from new clients but also existing clients on both transaction and portfolio level. Risk measurement; accurate and timely measurement of risk is essential to effective risk management systems. Periodically the measurement tools should be tested on accuracy. Risk monitoring; to ensure timely review of risk position and exceptions. Monitoring reports should be frequent, timely, accurate and informative and should be distributed to appropriate individuals to ensure action when needed. Risk control; the bank should establish and communicate risk limits through policies, standards and procedures that defines responsibility and authority. Bodla (2003) stipulated that proper credit risk architecture, policies and framework of credit risk management, credit rating system, monitoring and control contributes in success of credit risk management system. He emphasized that because of the fact that market conditions and company structures are different, risk management should be adjusted by institutions to comply with their needs and circumstances.
2.7 Brief History of Credit Union Development in Ghana
In the 1920s, the Department of Co-operatives realizing the need for popular credit and savings facilities in Ghana, introduced Thrift and Loan Societies. They were not properly managed so only few of them survived. A deadly blow came in 1961 when the then government dissolved the Department of Co-operatives along with the Co-operative Bank. When the Department of Co-operatives was re-organized after the 1966 coup, there were not more than five Thrift and Loan Societies in existence. Parallel to these events, a new type of savings and credit movement was being developed in Northern Ghana.
In September 1955, the first credit union in Africa was formed at Jirapa in the North-West now the Upper West Region of Ghana. The idea was introduced by Reverend Father John McNulty, an Irish Canadian (CUA, 1998).
Earlier in 1953, Reverend Father John McNulty went on trek to Sabuli, a Village 24 kilometres east of Jirapa. At the end of his trek, he was shown some torn (£6) six pound West African currency notes, which had been destroyed by termites. Apparently, the Catechist of the village had buried the notes in a cigarette tin in the ground. Reverend Father McNulty succeeded in getting the torn notes changed for new ones at the Bank of West Africa in Accra.
The only Bank in the North-West now Upper West Region at the time was the Bank of West Africa, now Standard Chartered Bank, based at Wa, which is 41 miles away from Jirapa, 72 miles from Nandom and 84 miles from Hamile and Tumu. Banking services were therefore alien to the people in the North-West at that time. Reverend Father McNulty suspected that money all over Dagaaba-Land was saved in a similar manner, waiting only to be destroyed by termites (Ahorlu, 2009).
Reverend Father John McNulty came across an article in a pamphlet with information about the existence of the credit union system in the Diocese of Antigonish in Nova Scotia, Canada. He started educating his people on the positive impact the credit union had had in that country. He then started the first credit union in Jirapa. In his correspondence with the credit union members in Nova Scotia, the Knight of Columbus granted a scholarship to the Bishop to send somebody to do Social Studies, manage credit union work and the co-operative system. The Bishop then sent the Reverend Father Derry to study at the Coady International Institute, St. Francis Xavier University, Antigonish. After completing his studies, the Reverend returned home. In the month of November 1959, Bishop Gabriel Champagne appointed him in charge of Social Work, Credit Unions and Co-operative Work in the Diocese. He then re-organized the credit union in Jirapa and reopened the one in Nandom (CUA, 1998).
In March 1960, when Pope John XXIII, now Blessed Pope John XXIII, ordained Reverend Father Peter Derry as Bishop of Wa, he encouraged the formation of Credit Unions in all the Parishes. Among them were Nandom, Kaleo, Ko, Daffiama, Wa, Lawra and Tumu. A few years later, there was a declaration that all co-operatives at the time had to be folded up for a new system of co-operatism to be organized by the government. The Wa diocese refused to accept the demand and their office was invaded by the Convention People Party (CPP) in order to destroy the credit unions. The Bishop gathered courage and appealed to President Nkrumah to rescind the decision. In 1964, a Canadian Credit Union technician, Mr. Churchill, was hired by Bishop Derry (now Archbishop Emeritus) for two years in the Wa Diocese in the Upper West Region. With financial support from Misereor, Germany, seven young men were engaged and trained, notably among them were Mr. Stanislaw Zaato, Mr. Alphonse Azaah, and Ignatius Bebele who worked up to the National Office (CUA) for several years. He established more credit unions and organised management training programs for the credit unions. This proved so successful that by 1968 the eight largest credit unions that existed at that time had a total membership of 6,300 and a total savings of $400,000.
Meanwhile, the credit union movement was experiencing some growth in the South as compared to those in the North. In 1959, the Railways and Harbour Employees Credit Union at Sekondi was established by one of their leaders who brought the idea from his studies in the United States. By 1967, there were about eight small community credit unions in the South which did not have the advantage of payroll deductions but depended on the common bond. One of such Credit Unions was Agona Swedru Teachers and its Treasurer was Mr. Bartholomew Quainoo of blessed memory, then a teacher who later played a key role in the credit union movement in Ghana and Africa. In Sampa in the Brong Ahafo Region, Our Lady of Fatima Credit Union was one of the eight credit unions in the South (CUA, 1998).
3. 0 Introduction
In this chapter an attempt is made to look at the research design, target
population, data sources, sampling procedures (size and technique), data collection instruments, fieldwork/ data collection and data analysis and limitations to data collection.
This study adopted the case study strategy. Among the various research designs, case studies are frequently regarded as using both quantitative and qualitative research and a combination of both approaches (Bryman, 2004). The researcher used both primary and secondary data sources, which were considered to be more appropriate for this study.
3.2Sources of Data
Both secondary and primary data was collected for the purpose of this research. For clarity, Saunders et al, (2007) define data as facts, opinions and statistic that have been collected together and recorded for reference or for analysis. 3.2.1 Secondary Data Source
Secondary data is data that is used for a purpose other than for which it was originally obtained. It may be descriptive or explanatory (Saunders et al, 2007), raw (unprocessed) or summarized (Kervin, 1999). They can be categorized into documentary, multi-source or survey- based (Saunders et al, 2006). Secondary data for the research was collected by reviewing books, journals, articles, magazines, publications, financial statements, industry reports, internal records of Suame Methodist Cooperative Credit Union, newspapers etc. to gather historical perspectives of the research data from renowned authors and researchers.
3.2.2 Primary Data Source
Primary data is data that is used for a specific purpose for which it was gathered. For this study, it was obtained by administering questionnaire to respondents with the help of field assistants and colleagues due to time constraints and the geographical area of coverage.
3.3 Data Collection Method
There are various methods by which both secondary and primary data are
obtained. Saunders et al, (2007) list questionnaire, interviews (semi-structured, in-depth and group) and observation as methods that are usable. For this research the methods employed were by survey and interviews. The instrument used for collection of relevant data for the study was a questionnaire and the semi- structured interview approach. 3.4Population
The complete set of cases from which a sample is selected is called the population whether it describes human beings or not (Saunders et al, 2007). In the Oxford Advanced Learners’ Dictionary, population is defined as all the people who live in a particular city, country or area. For purposes of this research the population of study comprised the management and staff of Suame Methodist Cooperative Credit Union. 3.5Sample and Sampling Procedure
A sample is a sub-group or representative selection of a population that is examined or tested to obtain statistical data or information about the whole population (Encarta Dictionary; Saunders et al 2007). Sampling on the other hand is the process of selecting a group of people, items or cases to be used as a representative or random sample (Saunders et al, 2007). A sample size of twenty (20) respondents out of the entire population was selected for the research given that they were only a handful and their inputs considered very vital. The number was considered adequate, and representative (Henry, 1990) enough to give informed answers to the research problem. To ensure that all the various groups in the sampling frame were surveyed, the stratified sampling technique or approach was used at the first stage of the selection exercise. This conforms to the ideas of (Saunders et al 2007; Bradshaw and Stratford, 2000) who explain that stratified sampling ensures the selection of respondents from all the identifiable sub-groups within the sample population because of their varied knowledge or areas of expertise on the research topic or problem. As mentioned earlier, as sample size of twenty (20) members of staff comprising both managerial and non-managerial grade were selected using the simple random sampling technique. The objective was to have a fair and credible representation of respondents. Purposive sampling was used to select the respondents within the targeted area for the study. This was guided by the
fact that even though Suame Methodist Cooperative Credit Union had been chosen for the study all of them could not be used for the study as demonstrated by Table 3.1 below.
Table 3.1 Guide: sample size and technique for selecting respondents Target Group
Sample Method Required
3.6Data Collection Instrument
The main instrument that was used to collect information for the study was an interview guide in the form of a questionnaire. The questionnaire was structured to consist mainly of open ended type of questions in order to elicit feedback from officers. The interviews were based on prepared or structured questions not in the form of traditional questionnaires where there could be optional answers to choose from but normal written down questions without optional answers. The interviewer presented a copy of the questions to the interviewee on the day of interview to understand the trend of questioning in its bid to find solutions to the questions raised. All
answers to the questions were captured by the interviewer or the researcher as answers to the questions presented. Again the interview which were more interactive sought to again more information perhaps beyond the structured questions, thus any such opportunity of extra information, which were referred to as semi-structured were presented in the overall analysis of the study. Then the recorded answers provided were transcribed, coded, collated and analyzed in finding answers to the questions raised. Secondary source of data collection will include the following; articles, books and internet database. This will provide a better understanding of the subject area and explain the research problems as well as to receive information about the research topic. Theoretically the understanding of how credit risk management is undertaken.
3.7 Administration of Questionnaire
Questionnaires sent out to respondents had a personalized covering letter explaining briefly the purpose of the survey, the importance of the respondents’ participation, who is responsible for the survey, and a statement guaranteeing confidentiality. This cover letter also expressed thanks to the respondents at the end. Questionnaires were self administered or read out by interviewers. Interview administered questionnaires were done face to face (Leung, 2001). The self administered questionnaires were cheap and easy to administer. It preserved confidentiality and was completed at the respondent’s convenience. It was administered in a standard manner. The interview administered questionnaires allowed participation by respondents who could not express themselves fluently in the English language and allowed clarification of ambiguity (Leung, 2001).
3.8 Data Analysis Plan
The data gathered from the field of study was edited by the researcher to ensure that all questionnaires were completed and contained accurate information. The statistical package for social sciences (SPSS) version 17 was used in processing primary data obtained through questionnaires. In analysing the data, frequency tables was used as the analytical techniques. Qualitative explanations were made of quantitative data to give meaning to them as well as explain their implications. From these appropriate
recommendations was made on the findings of the research. Statistics including simple tables, pie charts, bar charts, frequencies and percentage distributions, as well as mean, standard deviation and variances were used to analyze data that was collected. 3.9 Limitations of the Methodology
The researcher recognized that the sampling from the target population might not be totally free from errors and as such, efforts were made to minimize such errors. The population of the study consisted of staff of the Suame Methodist Cooperative Credit Union. Care must therefore be taken in generalizing findings. Finally, it is pertinent to reiterate the limitations to the study which is beyond the control of the researcher in the area of questionnaire administration and retrieval. Concerted efforts were made to ensure better response and retrieval of questionnaires from the respondents. 3.10 Ethical Considerations
Ethics are the rules of conduct. Ethical issues are highly applicable and require due considerations in every social researches. Thus every research has an ethical-moral dimension. Researchers are required to consider ethical concerns as designs of research are undertaken so that sound ethical practice is built in to the study. The ethical issues are the concerns, dilemmas, and conflicts that arise over the proper way to conduct research. Taking cognizance of the above issues raised, the researcher before the commencement of the study obtained approval from the university of study and presented a research proposal clearly explaining and describing the research procedures and ethical considerations of the study since it involved human beings. The researcher then approached the Suame Cooperative Credit Union to consent to the study that will be carried on the organization. This will help protect the right of the research participants and organization. The researcher undertook the process known as the informed consent before the instigation of the interview. This is where prospective research participants were fully informed about the procedures and risks involved in research, a brief description of the purpose of the study and were participants gave their consent to participate (Miller and Brewer 2003). In social research, the clearest concern in the protection of the subjects’ interests and well being is the protection of their identity. Ethical
standards also require that researchers not put participants in a situation where they might be at risk of harm as a result of their participation (Babbie and Mouton 2006). Therefore this research guaranteed participants anonymity and confidentiality in order to help protect the privacy of the research participant. Participants were assured that identifying information were not made available to anyone who is not directly involved in the study and participant will remain anonymous throughout the study even to the researcher (Babbie and Mouton 2006). 3.11 Reliability and Validity
The validity and reliability of data can be enhanced in the qualitative paradigm using such methods as triangulation, extensive field notes of original ideas, new information discovered in the field and member checks which entail a researcher taking analysed data back to the respondents to confirm that what they said is true (Babbie and Mouton 2006). O’Leary (2004) argues that reliability is premised on the notion that there is some sense of uniformity or standardization in what is being studied, and that methods need to consistently capture what is being investigated. Validity is premised on the assumption that what is being studied can be captured and it seeks to confirm the truth and accuracy of this captured data. It also seeks to show that the findings or conclusions one has drawn are trustworthy.
DATA ANALYSIS, PRESENTATION AND DISCUSSION OF RESULTS
The study was done by combining respondents from the staff (managerial and non-managerial) of the Suame Cooperative Credit Union. Data were gathered and tabulated using a descriptive statistics and meaningful conclusion and discussions were drawn for the analysis.
4.1Bio-data of Staff
The bio-data of the staff are made up of the gender, the age range and the number of years they have worked with the Suame Methodist Cooperative Credit Union. Table 4.1 shows the age distribution across the gender of the respondents. Table 4.1: Age and Gender
Source: Fieldwork Survey, May 2013
The age of staff was found to be fairly distributed among all the age categories used for the study. Majority of the staff fell within the age of 20-30 years inclusive, which forms 40% of the total sample of the staff and the least was found to be within the age distribution of 51-60 years which also constituted 5%. On the issue of gender, it was realized that, there was an equivalent distribution across the staff; the female constituting a significant dominance of 65% whiles the male were 35%. The outcome of the distribution is attributed to the sampling technique used for the study. Additionally, the study area across the society also seems to have a balance gender distribution and hence the result. This results shows that, there
were a fair representation of all age distribution as well as gender distribution for the study. The society has good and healthy blend of majority young energetic and enterprising personnel with the minority being the more experienced and skilful old folks; thereby indicating a strategic move of the bank to have especially the youthful staff to be deeply involved with issues on credit, irrespective of the gender. Figure 4.1 shows the number of years the staff have been working with the credit union, in order to ascertain the needed information that will be of help to the general interpretation of the result
Figure 4.1: Number of Years with company
Source: Fieldwork Survey, May 2013
The staff response shows a significant experience with regards to the number of years they have worked with the society/credit union. Over 75% have been with the credit union for more than two years. As illustrated by Figure 4.1, 26.67% have worked for 6-8 years giving them much experience on the operations of the organization; 13.33% have had enough working experience by working with the organization for more than 8 years; 23.33% each have worked for 0-2 years and 2-4 years respectively; and 13.34% have also worked for 4-6 years. The results is an indication of the fact that the staff selected have had enough working experience and their response reflects to the actual proceedings at the credit union/society, since they have enough working experience and have much knowledge credit operations is being at the cooperative credit union.
4.2 Credit Assessment
This entails the normal routine of the company on how loans and credits are assessed before granted to the beneficiaries. The study throws more light on the proceedings of the organization the general credit risk assessment. Figure 4.2: Criteria Used to Approve Loan
Source: Fieldwork Survey, May 2013
The study conveys much information on how credit is approved through the cooperative credit union to the beneficiary. The results indicate that, more emphasis of approving the credit is through the applicant’s ability to pay
back the credit granted, which forms the supreme criteria for the granting of the loan; as shown by the 33% representation. This was closely followed by the credit history of the applicant with 27%, in cases where the applicant have a good credit history with the cooperative credit union, the organization without objection grant the requested loan for the applicant.
Consequently, the respondents also gave a noteworthy approval for the security, share leverage and other factors (20%, 13% and 7% respectively) which may also contribute or influence the assessment of the credit. The researcher detected that these factors also play much significant role but not as significant as the ability to pay and the credit history of the applicant. In the light of these, it was imperative to know from the staff of Suame Methodist Cooperative Credit Union about the ranking of factors/criteria during the credit analysis. It was found out that, majority of the staff ranked their criteria as shown below in order of importance to the analysis of credit. Table 4.2: Loan Criteria
Character of individual
Type/amount of security
Savings leverage factor
Source: Fieldwork Survey, May 2013
It was realized that, credit history and repayment capacity of the applicant was the main criteria looked for before credits are granted to the applicants. These were found to be so essential to the general accessibility of the credits of the cooperative credit union in order to reduce default and risk exposure of the organization’s portfolios to its customers.
Table 4.3 Loan Management
Do you maintain a list of all securities as a control to determine the level of risk for each type of security? 24(80.00%)
Do you register your interest on collateral on loans to clients 19 (63.33%)
Do the loan terms and repayment methods coincide with the cash flows from the financial activity? 30 (100.00%)
Does the cooperative credit union gives loan to non-savers
Source: Fieldwork Survey, May 2013
The study reveals that all the loan management procedural methods were adhered to as seen in the table 4.3 above. The Suame Cooperative Credit maintains all lists of guarantors where necessary for determination of risk level. This was done since the organization registers its interest on collateral on loans to clients. However, some exceptions were made. The staff shows that, higher level of loan facilities which is lend to customers
are the only ones of which guarantors are needed to cover; whereas that of the everyday trader do not come with a collateral but simple measures as a guarantee for repayment. Due to the exceptions in the use of collateral to serve as a guarantee, it calls for, various strategies put in place to determine the repayment period of different individuals. These are: Loan product design and features
Based on cash flows of the customer
Furthermore, in terms of coinciding of the loan terms with cash flows from the financial activity, it was observed that these strategies as part of its mechanisms specifically with some reasons attached to it are: To ensure an efficient performance on the actual use of funds for its purpose To effectively monitor the use of the loan funds
To enhance the ability to pay as well as its promptness
To determine early warning signs of diversion and default, by a gradual non flow of cash flows to the bank from the beneficiary Loan facilities granted also witnessed to be associated with interest charged on it, the effective rate of interest were found basically from the base rate and other margins. Nevertheless, irrespective of the effective interest rate charged on the loan facility and the ability of the beneficiary to repay for the loan granted, the staff indicated a concentration limit set on the type of credit product. These were done mainly as were found: To minimize default and credit risk
diversify the loan portfolio
The study indicated that the organization as postulated in the Ghana Cooperative Credit Union Bye-Laws and Articles of Association loans are not given to non-savers and non-members of the society.
Figure 4.3: Measures for Reducing Risk
Source: Fieldwork Survey, March 2013
The study indicates that, in order to reduce its risk the measures above were adopted. It was realized that priority for reducing its risk is to lend for
purposes that will provide the ability of their clients to repay as well as giving of shorter term loans (30% representation). These were done in order not to expose the portfolios of the credit union highly to the public. Other measures were also adopted but on a large scale, rather being practiced by the cooperative credit union as and when it is needed. These measures were carried out per the information on their clients’ potential borrowers. This information on the potential borrowers before decisions are taken is mainly received through several sources such as the cooperative credit union’s own record
loan committee records
These serve as the main sources to obtain the needed information to make decision as to whether credit for a particular client should be approved or not. 4.3Other Measures of Credit Assessment
For the analysis of credit analysis and standards, credit control and credit collections weight were assigned to the extent of agreement to each variable as shown below, in order for the mean and standard deviation of each credit benchmark to be found. Strongly Disagree —————————1
Disagree ————————————- 2
Somehow Agree —————————- 3
Strongly Agree ——————————-5
4.3.1Credit Standards and Analysis
Table 4.4: Credit Standards and Analysis
Credit vetting policy, process & procedures are well documented 4.02
Additional information about loan applicant is always sought from external sources before loan facilities are granted 4.43
Customer credit information is shared among service providers in the industry for cases of fraud and bad debt 4.51
Source: Fieldwork Survey, May 2013
The total average in Table 4.4 illustrates that with regards to credit analysis and standards, cumulatively, the credit union attained a level, approximately 4.32 i.e. 86.4%. Three major variables were severally used to assess credit standards and analysis. ‘Credit vetting policy, process & procedures are well documented’ had a mean of 4.02; ‘Additional information about loan applicant is always sought from external sources before loan facilities are granted’, attained 4.43; and ‘Customer credit information is shared among service providers in the industry for cases of fraud and bad debt’ received a mean of 4.51. The study revealed by the above means that the Suame Methodist Cooperative Credit Union holds in high esteem all the necessary standards and analysis before loan facilities are granted. This shows that, the employees are actually satisfied with the standards and analysis with respect to Credits. 4.3.2Credit Control
Table 4.5: Credit Control
Suame Methodist Cooperative Credit Union has a credit departments which monitors debtors 4.33
The roles of Credit department and the Operations department in credit management are clearly defined. 4.03
The finance department supports effective credit control processes through generation of adequate control reports 4.14
Customers are notified on time to make good their liabilities as they approach their credit limits 4.03
There are no cases of undue influence on credit control from senior management. 4.02
Source: Fieldwork Survey, May 2013
As clearly shown in the table 4.5, some of the variables have mean of values approximately to the notion of agreement of a better credit control by Suame Methodist Cooperative Credit Union, such as “Suame Methodist Cooperative Credit Union has a credit departments which monitors debtors” which recorded a mean of 4.33; ‘The roles of Credit department and the Operations department in credit management are clearly defined’ and ‘Customers are notified on time to make good their liabilities as they approach their credit limits’ had a mean of 4.03. Furthermore it is noted that, employee’s assessment of credit control with the finance department supports effective credit control processes through generation of adequate control reports’ had the highest mean in the dimension of 4.14 representing 82.4% with “Suame Methodist Cooperative Credit Union showing no cases of undue influence on credit control from senior management’ registering the least men of 4.02. In summary, the study shows that with an average of 4.11 representing 82.20% is an indication of the organization having its hand firmly on the control of credits.
4.3.3 Collection Process
Credit monitoring and collection process is the most essential process in the entire collection process, these roles were found to be mainly through phone calls, field visits, reminder letters and demand notice. Additionally, it was also found that, the bank has the ability to demand payment of loan when the conditions for repayment have deteriorated or the percept of the original loan has been falsified. However, only three month is past before a loan is considered to be delinquent which sometimes covers the loan balance as well as loan payment. Based on these, analysis is carried out in case of guarantors of the loan. Some of these analyses include: Assessment of the assets and liabilities
income level shown by bank statement or pay slip
appraisal of residence and business site as and where possible On the other hand, in extreme cases where all diplomatic means are exhausted, financial institutions are forced to use legal means in some collection of loans from the beneficiaries, of which the most common used ones were found to be through arbitration; and through court action. In the processes of the legal actions, the financial institutions have contracted attorneys to take up these responsibilities, nonetheless, loan officers stay involved in the collection process after it is passed to attorneys for collection. The main roles of the attorneys are to determine the defaulters and review for an appropriate measure and legal action to be taken. In loan loss reserves and charges-offs, there is a policy for uncollectible loans through protracted delinquent of payment of both principal of the loan and the interest charged on it. Overdue loans which are uncollectible result from collapse of business-through either fire outbreaks or death of defaulter. Recoveries of loans that are charged-off move back onto the balance sheet or income statement through various means such as amount involved in bad debt written off are posted on the debt recovery account that reflects in Profit and Loss statements. However, it should be noted that, full provisions of such bad debt had been made against profit. In view of this, judgment through court and pre-trial of commercial courts are the only processes of liquidating seized collateral to pay the delinquent loans.
4.4Responds from Managers
Vital information was also solicited from the various branch manager and some members of the Board. The fallout of the interview with the management staff brought to bear the several credits depending on a client’s peculiar financial needs. Commonly among them were, Normal loans/short term loans, School fees loans, Susu loans, group Loans, Funeral Loans, Salary Backed Loans, Asset Financing Loans and Semi-Secure loans.
It was revealed that, customers have access to all credit services of the Suame Methodist Cooperative Credit Union upon meeting the stipulated requirements. Nevertheless, the predominant credits were salary
backed/scheme loans, semi-secure business loans, susu loans and funeral loans.
4.4.1 Types of Risk Existence in the Credit Facilities
It was realized that, the most typical risk associate with the credit facilities include Interest rate risk; Inflation risk; Market risk; Bad debts; Risk of default; change of residence by members; embezzlements and wilful default among others. These were the predominant risk which faces the credit union on all of its portfolios diversification. Based on these, various credit risk management processes and systems have been put in place to help reduce the prevalence of the risk to their portfolios. There exist a credit risk committee that reviews and analysis all credit facilities before approval and final disbursement. Relationship managers are tag to credit customers to manage credit performance and review them at specific intervals.
4.4.2 Challenges of Risk Management Practices
Typical among the challenges with risk management are as follows: The inability of credit officers to regularly monitor the performance of facilities under their care As a growing institution some structures/processes and line of reporting are not clearly defined making it difficult to track loan applications Disparities in certain reports generated from the system causing a disjointed effort.
4.4.3Impact of Risk Management on Performance
It was also noted that, the inability to properly manage portfolios under one’s care results in huge losses to the credit union, and subsequently set aside as bad debts after several attempts to recover fails. This causes the society to set aside a certain portion of its profits against bad loans not recovered, which affects the credit union’s total bottom line. Therefore, effective risk management system reduces default rates, low provision for bad and doubtful debts; thereby translating into increase in profitability of the cooperative credit union. Statistical analysis was performed to ascertain the impact of the non performing loan on the profitability of the credit union. Though there are no specific regulations on the loan loss
provision ratio to be kept by financial institutions, Suame Methodist Cooperative Credit Union has set maximum limit of 7% and they are working on getting not more than that percentage in subsequent years.
4.4.4 Credit Risk Management Implementation
The interview with the manager showed that, credit policy or procedures are published for all to go through and keep abreast with. Others are statutory acts such as the lenders/borrower acts, they also indicate that, these are constantly reviewed in line with changing trends in the market and in the face of the introduction of new products unto the market of which the most recent change had to do with the home/semi-secured as well as the auto loans and loans for civil servants especially teachers on government’s pay roll. Furthermore, on the question of how credit staff is being notified of new policies or any modifications, it was found that, these new policies are published through the use of a circular sent around to notify one of such changes. At other times, training programmes are organized for credit staff on major changes so they can also educate members of such changes. Others are put on leaflets and flyers and notifications for circulation. Some of the notification is timely whiles others are not. Losses with respect to inaccurate notifications were unable to confirm by most of the branch managers.
4.4.5 Review of Business Result
The interview shows that, business results are clearly and critically reviewed in line with the organization’s performance indicators set forth globally. Management is required to do a month/quarterly performance review and make amends where they fall short. CHAPTER FIVE
SUMMARY OF FINDINGS, CONCLUSION AND RECOMMENDATIONS
5.1 Summary of findings
5.1.1 Credit risk management processes and systems
The analysis of the data gathered and the interview conducted reveals that, the most predominant risks were: Interest rate risk, Inflation risk, Market risk, Bad debts, Risk of default, wilful default. These predominant risks were found to face the credit union on all of its portfolios
diversification. Upon such findings, it was also noticed that, the various credit risks management processes and systems have been put in place to help reduce the prevalence of the risk to their portfolios. Final credit/loan approval is done by the credit committee which has the power to approve loans. 5.1.2 Challenges of Credit Risk Management Practices to Staff It became clear that, the common challenges with risk management found within at the credit union as per the interview conducted with the management members were: The inability of credit officers to regularly monitor the performance of facilities under their care As a growing institution some structures/processes and line of reporting are not clearly defined making it difficult to track loan applications Disparities in certain reports generated from the system causing a disjointed efforts
5.1.3 Impact of Credit Risk Management on Performance
Evidently, the study found out that, the inability to properly manage portfolios under one’s care results in huge losses to the credit union, and subsequently set aside as bad debts after several attempts to recover fails. This affects the cooperative credit union to set aside a certain portion of its profits against bad loans not recovered, which affects the organization’s total bottom line. The study finds that the higher the risk of management the lesser the performance of the credit union, since its performance is dependent on the general portfolio divestiture.
Management of loan portfolio is a critical venture in the operations of financial institutions; therefore, if care is taken to put in place the needed measures, it spills around its objectives and creates an immense wealth for the institutions which forms the basis for capitalization of business around the globe either in long term or short term. This study among other things establishes the needed frame work of the financial institutions and tends to bring into view the challenges as well as the daily routine processes of the loan portfolio and its managements among two financial organizations. At the end it was realized that, if consideration of the clients are put in the right context, the financial institution (Suame Methodist Cooperative Credit Union) will be able to service its
clients and achieve the mission and vision of their organizations.
Based on the analysis of the data gathered, it is very prudent to make some recommendations so as to ensure the sustainability of the loan portfolio. Various views were suggested by the staff of Suame Methodist Cooperative Credit Union on how the management of loan portfolio can be improved, some of the views given priority to will help improve the schemes. 5.3.1 Thorough market research of loan product design
This research is to incorporate customer’s complaints and needs and as to where and when these products should be given to customers. The financial institutions should have different policies as to their customers based on the track records of their faithful customers. This will help to minimize the risk they are being exposed to. 5.3.2 Proper and adequate loan appraisal
A drastic measure should be taken by the institutions as to the loan appraisal to include other factors, particularly to clients whose details have some doubt. However, to some faithful clients appraisal is being recommended to effectively plan to reduce the time spend on these client’s appraisal, this will go a long way to improve the relationship with these clients and help bring in more faithful clients to patronize to the various packages of the institutions.
5.3.3 Monitoring loans after disbursement
It is suggested that, the cooperative credit union should develop a comprehensive plan to monitor the loans given out. This will help to increase the rate of repayment and minimize default rate of clients as well as help facilitation of fishing out unscrupulous clients from their faithful customer.
5.3.4 Diversification of loan portfolio
As part of the general research into the portfolio management, it is recommended that, the institutions should diversify their loan portfolios into different packages that will suit their clients by taking the financial
standing of their clients into consideration. Nevertheless, on the front of their clients, it was established that, management actions on the under listed items will go a long way to helping the customers as well, these were reduction in commitment fee charged on the loan; early disbursement of approved loan; and softening of collateral stands for certain loan portfolios for known and faithful customers. These recommendations if taking into consideration will help improve the loan portfolio management and increase accessibility of these portfolios to the consumable market available in the financial industry as a whole. 5.4 Areas for further Research
In view of the fact that the study could not cover the whole country and all the knowledge in credit risk management, future researchers interested in this area could also look at how other organizations in the NBFI industry have adopted credit risk management strategies in their businesses. This could provide a clear assessment of how Credit Risk Management could be used in improving, sustaining and enhancing their activities in the Ghanaian NBFI sector.
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Xiuzhu Zhao (2007) Credit Risk Management in Major British Banks, A Dissertation presented in part consideration for the degree of “MA Finance and Investment” University of Nottingham
RCBs-Rural and Community Banks
MDGs-Millennium Development Goals
CUA-Credit Union Association
SPSS-The Statistical Package for Social Sciences
NBFI-Non-Banking Financial Institutions
Interview for Management Staff
This interview’s content is confidential and serves the purpose of collecting data for the final thesis. The researcher guarantees not to disclose the bank’s and the respondents’ identities in the work.
SECTION A: General Questions
1. What are the credit services that your credit union is offering? _____________________________________________________________________________
2. At this credit union, what kind of credit services that the customers have access to? _________________________________________________________________________________________________________________________________________________________________________________________________________
3. In your opinion, what types of risks exist in those services? _________________________________________________________________________________________________________________________________________________________________________________________________________
4. What are the credit risk management processes and systems at this credit union? _________________________________________________________________________________________________________________________________________________________________________________________________________
5. What are the challenges of risk management practices at Suame Methodist credit union? _________________________________________________________________________________________________________________________________________________________________________________________________________
6. Please indicate the extent to which credit risk management impacts on the performance (profitability) of Suame Methodist credit union?
7. Please fill the table as per the trend of NPL, Income and Profits of the Suame Methodist Credit Union? Financial Year
Number of Defaulters
8. What is the impact of default of loans on the liquidity and financial position of the Suame Methodist Credit Union? _______________________________________________________________________________________________________________________________________________________________________________________________________________________________________
SECTION B: Questions related to credit risk management implantation at the Suame Methodist Credit Union.
1. What is the credit culture of your Credit Union?
____________________________________________________________________________________________________________________________________________________________________________________________________________ 2. Are the policies and procedures of credit risk management constantly reviewed to adjust to the new conditions? Usually on what basis? Please give an example of the most recent change? ____________________________________________________________________________________________________________________________________________________________________________________________________________
3. How are the credit staffs in the transaction office notified of new policies or any modifications? Are the notifications timely and complete? Was there any loss resulting from inaccurate notification? ____________________________________________________________________________________________________________________________________________________________________________________________________________
4. How frequently are update reports made to the management persons? In what form are the reports? Is the report content much related to risks or risk management? _________________________________________________________________________________________________________________________________________________________________________________________________________
Thank you for your great contribution!
QUESTIONAIRE TO STAFF
You have been selected to respond to this questionnaire for the study of “The Assessment of Risk Management of Ghanaian Non-Banking Financial Institutions: A Case Study of Suame Methodist Cooperative Credit Union”. You are assured that any information you provide is solely meant for the research and nothing else. Your response to the questions will be kept confidential. Thank You.
SECTION A: Bio-data of respondents
Please complete this section by ticking the applicable box
1. Gender:[ ] Male[ ] Female
2. Age: 20 – 30years [ ] 31 – 40years[ ] 41 – 50years[ ] 51 – 60years [ ] 3. Number of years with the company
0 – 2years [ ] 2 – 4years [ ] 4 – 6years [ ] 6 – 8years [ ] over 8 years[ ]SECTION B: Credit Assessment
1. What criteria are used to approve or deny a credit facility? Ability to pay [ ]
Guarantee [ ]
Share leverage [ ]
Credit history [ ]
Others [ ], Please Specify______________________________________________
2. How would you rank the following criteria during credit analysis? Rank by circling the number chosen.
Savings Leverage Factor
Type/Amount of Guarantee
Character of individual
3. Please tick either Yes or No to the questions in the table Detail
Do you maintain a list of all securities as a control to determine the level of risk for each type of security?
Do you register your interest on collateral on loans to clients
Do the loan terms and repayment methods coincide with the cash flows from the financial activity?
Does the bank gives loan to non-savers
4. What is the maturity profile of loans from your Credit Union? Short term (within 3 months) [ ] Medium term (between 1years and 3 years) [ ] Long term (over 3 years) [ ] Other (please specify)……………………… 5. Which of the following measures does Suame Methodist Credit Union adopt to reduce credit risk/default risk? Credit rationing ( )
Collateral to strengthen repayment incentives ( )
Small loan amounts( )
Shorter term loans ( )
Lending for certain sectoral economic activities only ( )
Lending for purposes that will provide ability to repay ( ) Others (specify) …………………………………………. 6. Does someone review disbursement documentation to ensure compliance with policies and procedure? Yes No  Who?________. Please explain the reason for your choice of answer. ____________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________
7. How does the credit union get information on potential borrowers before
loan decisions are made? Community and neighbourhood ties [ ] Transactions in other market [ ] The company’s own records [ ] Others (Please specify………………….
SECTION C: CREDIT STANDARDS & ANALYSIS
Please tick the appropriate box on the scale of 1-5 as provided Strongly Disagree – 1, Disagree – 2, Neutral – 3, Agree- 4 and Strongly Agree
Credit vetting policy, process & procedures are well documented
Additional information about loan applicant is always sought from external sources before loan facilities are granted
Customer credit information is shared among service providers in the industry for cases of fraud and bad debt
SECTION D: CREDIT CONTROL
The bank has a credit departments which monitors debtors
The roles of Credit department and the Operations department in credit management are clearly defined.
The finance department supports effective credit control processes through generation of adequate control reports
Customers are notified on time to make good their liabilities as they approach their credit limits
There are no cases of undue influence on credit control from senior management.
SECTION F: CREDIT DEBT COLLECTION
The company has a dedicated manager responsible for payments and defaulters.
Follow up of outstanding debts is done mainly through phone calls
Regular personal visits are made by the debt collection team to follow up outstanding payments.
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TOPICS IN THIS DOCUMENT
Risk management, Credit risk, Credit union, Credit rating, Financial services, Operational risk, Risk, Risk in finance
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