UKRAINIAN INDEX
OF EFFECTIVE INTEREST RATES
ON CONSUMER LOANS FOR INDIVIDUALS
Russian (CIS)English (United Kingdom)
Experts
New Publication:
New Publication:
New Publication:
Publications Calendar
< 07/2017 >
Mo Tu We Th Fr Sa Su
          1 2
3 4 5 6 7 8 9
10 11 12 13 14 15 16
17 18 19 20 21 22 23
24 25 26 27 28 29 30
31            
 


Three keys to the operating KPI system within a financial institution

Ambitions of owners, shareholders or other banks occasionally come down to capturing a certain (typically the largest) market share at the boosted speed and reaching the Top 5 or Top 10 for a relevant market share. As a result, the financial institution’s management and directors face the task of succeeding in capturing this share and sticking to the Top 5 or Top 10.

It all turns into formation of the Key Performance Indicator (KPI) system penetrating with the financial institution’s management, at least top management and, more often, it threads through the middle management, and sometimes even through small structural subdivisions. Achieved KPI indices affect the variable component of remuneration of labor and, as a rule, top managers’ annual bonuses. Moreover, the bonus size may significantly exceed the annual salary.

This system functions very well, compared to other equal ones, if there is a clear split of sales and risk-management functions. And it’s not just a split as it is, but also constraints and counterbalances foremost, including the manager’s position as a chief executive.

In the best case, the goal set by shareholders is reached under circumstances listed. It’s good if, for example, the loan portfolio growth is strictly and adequately supervised by risk managers, and the managers are planning to work for this financial institution not only this year, but thereafter as well.

However, unfortunately, the Ukrainian experience shows that institutions invite so-called “outsiders”, i. e. special managers or even teams ready to come from one bank to another. “Outsiders” typically have the experience of working for several banks, for example, they can speak beautifully, know how to sell themselves and are ready to undertake the far-reaching challenges. For example, in order to capture the desired market share, they are ready to give credits “at a rate of knots”, not especially thinking of the debtor's quality. But the actual problem becomes evident in about six months (the troubled loan portfolio is growing), it’s particularly risky for a fast growing portfolio. Approximately at the same time system errors appear in the loan issuance process (for example, when we mean the mass retail lending). However, it’s possible to identify these trends only if the lending institution conducts quite a deep analysis of risk management , the accounting system is established with results correctly delivered to decision-makers (as a rule, these people are motivated). Then, certainly, at early stages it will be possible to detect the troubled debt growth and understand its causes.

If no analytics is in place, and the quality of a risk-management team leaves something to be desired, then one year may be not enough for a problem to become clearly visible.

The cunning of the situation is as follows: against the fast-growing loan portfolio, the problem growth looks not so daunting. If the issuance of loans goes up very quickly, the troubled credits issued before just get “dissolved” in the stream of newly issued ones. The portfolio looks rather tolerable on the whole.

But then, especially if the issuance rate gets stabilized after a heavy growth, the whole problem becomes evident, but it’s too late… The experience shows that it’s possible to turn the tide against the fast growing portfolio (we mean the mass retail crediting, but in the corporate lending the situation may change for one or several borrowers even faster) if the system problem has been detected no later than in three months after its actual emergence. If there is a clear understanding of the process gaps, then sometimes under favorable market conditions it’s possible to change the situation in 6 months from the negative trend start. However, if the trend shows the problem extension within a year or more, as a rule, the situation becomes irreversible, and the only way out would be capital injections by shareholders or emergency loans from more successful business lines (of course, if they are available).

So the actual condition of a credit portfolio becomes visible in two cases: 1) when the rates of new loan issuance become stable for a long time, and 2) when the portfolio is analyzed by a highly professional risk manager in certain time periods (e. g. every month in retail crediting), and different analytical cuts are taken into account. However, the qualification alone won’t be enough: risk managers can see everything and keep silent, the top managers can see the details and be silent too. If bonuses are to be paid in an attractive amount, they are facing an acute temptation to keep owners of the financial institution blissfully ignorant of the developing disaster.

Owners may be kept ignorant for a year or longer, which is typically enough for a “star team” to be hired by a new bank for implementation of new ambitious plans.

Why do abovementioned “outsiders” have all chances to change 5-7 banks one by one (let’s note it’s not the only feature of theirs), leaving “holed” loan portfolios and balances? If they are hired by foreign founders, it tells of their failure to know the local specifics. If “outsiders” are invited by local owners, it means they did not have any banking business in their portfolio before and did not work in specific segments of the financial market, so they do not understand what they are dealing with. You can be an extremely successful, experienced and qualified developer, agro-businessman or metal trader, but you may dreadfully fail in the unfamiliar financial field.

But the picture is not so straightforward as it was described above, it’s all usually more complicated and tricky. However, in view of this, the core of the problem does not change significantly.

Is there any way out? At the very least, one should follow three principles:

- the rigid organizational structure with division of powers, the system of constraints and counterbalances;

- risk management supervision by the owner or his authorized representatives;

- the correct and balanced system of incentives for top managers, including the deferred payments.

The last point is very important in view of the fact that the ethical principle is a failure in the struggle for big bonuses.

Therefore, the KPI system will not be limited by such factors as the growth rate and market share, it should inevitably include #1 - profitability, #2 – operating cash flow, #3 – risks, higher quality sales structure and, preferably, qualitative indices in all process directions (though, it’s another topic).

I would like to note that in 2009 and early 2010 there was an impression that bankers and bank owners did learn their lessons. However, in late 2010 an opposite activity was observed: even the banks which stopped their crediting activity etc., after their fingers had been burnt on the eve, jumped into a feverish lending activity.

 
Share: