Despite the extreme care exercised in the sanctioning and control procedures, it is still possible that some advances may become doubtful because of adverse changes in economic conditions seriously affecting the borrower’s business or his personal financial position.  

All lending decisions involve an element of risk to the Bank, because future economic conditions cannot be predicted exactly. Therefore, an important area in advances control is-

• Identification of delinquent advances, and
• Monitoring of the delinquent accounts.

Identification of Delinquent Advances The identification starts with the branch manager. As part of the control mechanism, the branch manager is monitoring advances regularly during the week; he or his assistant may check on large accounts daily and review the smaller accounts at weekly intervals. The branch manager will be looking at the health of the account and will use the following criteria;

a)   in the case of overdrafts;

Turnover,

Conduct of the account against the limit sanctioned by the Bank at the last credit line review.

b)  In the case of loans;

Adherence to the repayment schedule agreed with the borrower, either when the loan was sanctioned, or at the last rescheduling.

c)   in the case of bills purchased and letters of credit;

payment of the bill by the drawee at the destination on the maturity date or in the event of non-payment by the drawee, by recovery from the drawer of the bill (borrowed).

d)   in the case of contingent facilities;

Letters of credit should be checked to ensure the reliability of the seller of the goods and the legality of the transaction.

in the case of letters of guarantee, the details of the contact and the period over which the guarantee is valid should be checked: performance bonds and bid bonds also involve additional checks to ensure that the contractor has carried out similar work previously,

e) in addition the branch manager should also keep a watch on declining sales, reducing profits and profitability, deterioration in the financial ratios, if any. He should remain vigilant of external factors such as non-availability of a particular raw material, delays in payment by Government Agencies, declining market for a particular product, financial weakness of a guarantor etc. These factors have a direct bearing on the health of a borrowing account.

When he carries out his daily and weekly reviews, the branch manager will first look at the latest balance sheet on the account. If this balance meets his control criteria, no further investigation of the account will be necessary. However, there will be some accounts whether further detailed examination is called for, either because the account has already been identified as an irregular account, or because the balance on the account has not moved in an expected manner since the last review. In these cases, the branch manager can call up the following data for further investigation of the account:

• Customer statements,
• Recent transactions on selected accounts;
• Weekly report on Excess Over Limit;
• Weekly temporary overdrafts report;
• Monthly loan report;
• Credit line review report. This report gives a very comprehensive view of the account in terms of transaction value and of maximum, minimum and average balances each month and also provides a clear indication of the trend in the turnover and balances on the borrower’s account over a period of

Therefore, the branch manager has a range of quantitative information to help him identify potential bad debts. The branch manager will be looking for three signals that either confirm that the borrower is in the doubtful category or indicate that he may be moving into this category:

• Persistent excess over limit (EOL) on the borrower’s overdraft account indicating that he may be over trading;
• A fall in turnover, indicating that the business is in decline: in some instances the turnover may be cease altogether and this could indicate that the borrower is in serious financial difficulties;
• Defaulting on loan repayments or on repayment of bills payable at their maturity date, indicating that a business may be in financial difficulties.

Whilst any of the above signals must be treated as an important indication of possible problems with a particular account that must be followed up, sometimes further investigation will reveal that the account is not moving in to the doubtful category. For example, a persistent expansion, which requires an increased overdraft limit, justifiable in terms of gearing between internally generated capital and borrowed funds. Alternatively, a persistent EOL may indicate that the borrower’s credit facilities need to be restructured, the “hard core” part of the overdraft being converted in to medium term loan. Also turnover reductions must be interpreted carefully. A complete stop in turnover may mean that the borrower has gone to another bank, not that he is going out of business. However, it is part of the branch manager’s review function to ascertain the true status of each account so that he is well prepared for HO’s periodic review. Also these signals from the control system must be followed up discreetly with the borrower. The branch manager must use them as a basis for discussion with the borrower about the present state of his business and future prospects.  

Besides these quantitative indicators, the branch manager must also have qualitative information on all borrowers obtained from third party sources so that he has a complete view of his clients The qualitative information may take the form of periodic market reports. The branch manager, being an important figure in the local business community, should develop ready access to information of this sort through his network of contacts in the area.   So, any advance account where any one or more of the following features is present should be categorized as a delinquent account:

• No turnover on the account for a period which exceeds the normal cash flow profile of the borrower’s business and the borrower has not co-operated in regularizing or adjusting the account.
• Persistent excess over limit (EOL) which are not explained by healthy business growth;
• Repeated defaults on loan repayments which have occurred after rescheduling;
• Apprehension of financial weakness of the borrower/guarantor(s) or danger to Bank’s security or collateral which may jeopardize Bank’s ability to recover in full its dues at any stage;
• Account is showing signs of weakness for other reasons, e.g. non co-operation on the part of the borrower in completing / regularizing charge documents, security or adverse trends in the balance sheet and profit and loss account;
• Legal notice has been served by the Bank on the borrower/guarantors) recalling the advance;
• A lawsuit has been filed by the Bank against the borrower or guarantors) for recovery of the advance,
• Notice has been served about bankruptcy or liquidation proceedings against the borrower;
• It has not been possible to locate the borrower.

Monitoring of the delinquent accounts

After a delinquent advance has been identified by the branch manager and confirmed by Head Office, it must then be monitored through monthly and quarterly reporting to Head Office. The first stage in the monitoring system is to meet the borrower and give him the opportunity to regularize his account. Normally he will be given a time limit to regularize his affairs and to provide plans for solving his financial problems.

Branch office, in consultation with the borrower and with the permission of the Head office, will make a recovery plan. This recovery plan and/ or restructuring of the facilities may be either accepted or rejected.   If the recovery plan is rejected or if the recovery plan previously accepted by the Bank does not work, then the borrower may be given some more time to solve his financial problems if they appear to be temporary and if extra time is all that the borrower needs to develop a practical solution. However, if the problems appear intractable, then either of the two things may happen:

• the bank may file a lawsuit against the borrower as well as the guarantor to attempt to recover the outstanding balance on the advance account; and
• the borrower may be declared bankrupt through law proceedings.
• In either of these cases, interest on the advance will not be credited to the Bank’s income account, but will be credited to interest suspense account instead. The borrower’s loan overdraft account will debit with the interest charge as usual.