loan Classification, Provisioning and Credit Review

While assessing a loan, banks should consider the extent of the shortfall in the operating results and cash flows of the obligor, the support provided by any pledged collateral, and/or the support provided by any third party. 1.4.4 In order to promote uniformity in the criteria used by Saudi Banks for assigning quality rating to loans, SAMA proposes the system of credit classifications described in the following paragraphs. It should be noted that banks may use classification systems that have more grades than those noted below, as long as they can demonstrate that their systems comply with and their data can be summarized in a manner consistent with the system proposed in these regulations. 1.4.5 Standard Category Loans in this category are performing and have sound fundamental characteristics such as borrower’s overall financial conditions, resources and cash flows, credit history and primary or secondary sources of repayment. A classification of standard should be given to all loans that exhibit neither actual nor potential weaknesses. Loans that exhibit potential weaknesses should be categorized as Special Mention. Standard and Special Mention loans are considered as “performing” credits. 1.4.6 Special Mention Category A ‘Special Mention’ loan is defined as having potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may, at some future date, result in the deterioration of the repayment prospects for the loan. These loans are normally current and up-to-date in terms of principal and commission/income payments but deserve management’s close attention. These potential weaknesses may include: • Declining profitability • Tightening liquidity or cash flow • Increasing leverage and/or weakening net worth • Weakened marketability and/or value of collateral • Industry-specific problems • Economic and/or other problems affecting the obligor’s performance • Concerns about the obligor’s management competence or depth • Material documentation problems • Inability to obtain current financial information 1.4.7 ‘Special Mention’ loans would not expose an institution to sufficient risk to warrant a non-performing classification and would continue to accrue commission. ‘Special Mention’ loans would have characteristics, which corrective management actions could remedy. The ‘Special Mention’ category should also not be used to list loans that contain risks usually associated with that particular type of lending. Any lending involves certain risks, regardless of the collateral or the obligor’s capacity and willingness to repay the debt. But only where the risk has increased beyond that which existed at origination, should the loans be categorized as ‘Special Mention’. However, loans to businesses in certain industries (for example, those with declining revenues or reducing margins or which are subject to specific competitive issues) may be included.