Bank credit rating strategy

The Expert RA rating agency is in the business of rating banks while proceeding from its proprietary set of strategies developed to grant solvency ratings to Russian merchant banks.

Credit ratings have come to be of relevance for bank owners, executives and partners, just as for pertinent regulators and borrowers. However, ratings have been primarily designed for bank creditors. To emphasize, ratings provide both bank profiles, descriptive of that or other bank’s ability to fully and timely meet its commitments, and prospects for sustaining that capability under evolving marketplace environments.

Understandably, Expert RA ratings are pegged to Russian market conditions, and they are not reflective of Russia’s country risk. Those findings happen to be Expert RA opinions on the creditworthiness and financial health of appraised domestic banks over the mid term. The creditworthiness notion generally stands for a given bank’s capability to meet its asset-based obligations before customers, partners and government. Financial sustainability normally stands for a given bank’s capability to keep its solvency level for a certain period of time, with cash flows likely to be adversely impacted by either internal or external forces.

To come up with the right rating, an expert normally applies a model of rating functional molded by a range of factors reflective of varied business efforts pursued by a bank. The factors include financial and economic indicators (financial analysis) standing for the level of current solvency and hard-to-capture business risk particulars that help determine the given bank’s financial health (qualitative analysis).

Financial analysis

Principal financial assessment data sources are made by secondary current account balances, off-balance-sheet details, time transactions, CBR statement of compliance, profit and loss statement, auditor’s report, annual report and other materials/documents/records holding any financial particulars related to the given bank.

• The size of a bank’s business is defined through application of a number of parameters. The value of net assets comes to be most important. When gauging the size of a bank, one ought to reveal: its affiliation with that or other financial and industrial group or holding; effectively implemented large-scale projects (both investments and customer-geared loan arrangements); and bank (related holding) business diversification profile.
• Capital adequacy. The value of capital appears to be the most crucial indicator. One ought to examine the ongoing specially designed capital expansion and unpaid capital schemes. Besides, one should take into account the available capital structure: invested earnings in the form of provisions to back up core activities, issue proceeds and relevant capital share, form of bank ownership, capital raising history and its expansion over a lengthy stretch of time, capital adequacy and compounded ratios under CBR rules.
• Structure of assets. This segment includes a concerted effort to: allocate assets by class and define their value levels, assess the level of asset diversification, uncover the dynamics of asset-based structural disproportion shifts and reasons for those instabilities.
• Structure of commitments. This cluster of indicators stands for sources tapped to generate lending resources and dynamics for lending source fluctuations. Also, one would be best advised to define the tenor and stability details relating to the committed customer base, just as pass an expert judgment on the drivers for shifts within the structure of obligations.
• Assessment of a bank’s liquidity includes an effort to examine the details underpinning the liquidity status and define the assets-to-liabilities balance. This segment happens to be particularly focused on account of a lending institution’s financial health being largely driven by its solvency characteristics. Apart from that, whenever the relevant liquidity status is to be determined, one ought to look at the knowledge available on the given bank’s liquidity building plans, inherent dependency on big-customer concentrations, etc.
• Rated CBR ratios and requirements. This block of data comes to be reflective of any shifts bearing on pertinent financial indicators and ratios researched for the duration in question. The desired trends are generally identified for one-to-three-year stretches of time and then brought against the established weighted average numbers for the banking sector, peer-banks, etc. Also, a focused effort is made to check and see if the applicable CBR standards have been adhered to.
• The quality of assets is assessed in terms of such particulars as the aggregate value of customer-loan, inter-bank-loan and net-asset-related delinquencies; security-to-aggregate-borrowings ratio; delinquency-related-provisions-to-total overdue amounts; etc. Also, one should look at the mix of bigger-foot borrowers, relevant concentrations of assets, quality of the current stock portfolio as pertinent characteristics, profile of other lending risks.
• Profitability and viability of a bank. Relevant findings are supposed to be reached following research of the bank’s profitability and an effort to check and see whether the structure of revenues and expenditures are in sync with the business areas pursued by the given bank. To add, one ought to examine the dynamics for shifts in the structure of revenues and expenditures over the researched period, with the root causes having to be appropriately identified.

Qualitative analysis

The key sources of data needed to assure qualitative research of business engagements pursued by a bank are generally made by providers of legal-related knowledge including terms of reference, licenses, founding charters, marketing information, annual reports, advertising and promotional materials, mass media reports, research surveys and questionnaires, bank’s top-manager interviews, etc.

• History, goodwill and relevance of a bank are assessed through researching the data reflective of the current top-management‘s clout, bank’s credit history, bank’s brand visibility, regional presence, customer base particulars, etc. Besides, one ought to examine the knowledge secured from a range of other sources in order to get the achieved findings appropriately tweaked.
• Organizational structure and HR management are examined by way of looking very closely at such indicators as qualification standards held by skilled line workers, engineers and top managers; availability of meaningful proprietary guidance documents and software applications; total numbers and performance appraisals of personnel, managers and executives; HR training and development approaches; in-house business culture and corporate ethics-related practices.
• Business development plan for a bank primarily includes a description of the current strategy with its particulars, line-of-business-related details and deliverables, just as any results achieved as part of the ongoing corporate development program. Also, one ought to examine such things as current plans for customer base shifts, core business updates, branch-based network expansion efforts, moves undertaken to shape a financial and industrial group, plans to grow the existing line-up of products, just as other opportunities to expand the given bank’s business.
• Credit policy research includes a focused effort to examine such factors as the existing credit risk management system, levels for loan release approvals, credit risk monitoring procedures, quality of the given bank’s lending book.
• Management of financial resources and cash flows is normally assessed through looking to check and see how a bank’s assets and liabilities are planned for and managed, how resource allocation decisions are passed, what tools are applied to gauge the pressing market risks and how in-house review procedures are sustained. To add, one ought to assess the given bank’s performance in the inter-bank market (net-lender or net-borrower) and the cost of short-term loans from the inter-bank market.
• Risk management and decision-making procedures are appraised by way of looking at the indicators brought under the risk-management umbrella. One primarily examines the applicable guidance documents, available hardware and software products, caps-related controls, level of pertinent appraisal reports, sustained links amongst business units, availability of functional committees and their session schedules, proficiency standards of risk managers and business researchers.
• Regional policies and branch network are appraised through examining the total of branches and their goals, branch status specifics, quality and nature of internal controls applied to oversee the branch-pursued activities.
• Tech-outfit capacities of a bank are assessed by way of ascertaining the availability and efficiency of bank-based data-sharing links and treasury, front/middle/back office data management capacities; quality of software/network capabilities; level of online oversight capacities; utilization of state-of-the-art hardware/ software and information security management system. Particularly focused should be the quality of automated management applications: type of management systems deployed, functions sustained and geographic coverage assured, partner-relationship (vendor, consultant) management strategies pursued to deploy advanced solutions.
• Operational landscape for a bank is assessed through looking at the external factors bearing on bank operations: macro-economic trends, banking sector structure, intensity of competition in the marketplace, government regulatory procedures, applicable legal requirements and constraints. Importantly, these factors should best be examined with due regard to the lines of business pursued by the bank under rating assessment (core and non-core activities, regional presence, penetration by sector, etc.).
• Structure of ownership and quality of corporate governance should be assessed by way of examining the mix of beneficiaries or shareholders, motivations involved in growing the bank in question, bank’s participation in the ongoing economic development programs, links with political parties and movements, etc. Apart from that, one ought to gauge the quality of management and its prevailing motivations, reveal any conflicts with stakeholders and scrutinize the safeguards sustained to assure stakeholder interests. Normally, the ways applied to determine a bank’s solvency are based on the principle that, with the selected baseline financial performance indicators reaching certain rated levels, a bank is assigned an A, B, C or D-group rating. To add, any specific bank rating is established following a thorough research of follow-on financial performance and quality-of-governance particulars reflective of the given bank’s pursuits.