Regulations for Small Enterprises Financing

PRUDENTIAL GUIDELINES FOR CONSUMER FINANCING AND SMALL ENTERPRISE FINANCING. REF: BRPD CIRCULAR NO. 10 DATED 20.08.2005.

PRUDENTIAL REGULATIONS FOR

SMALL ENTERPRISES FINANCING

First Edition-2004

BANG LADESH BANK

FOCUS GROUP TEAM

 

Name Institution Designation Phone
AKM  Mustafizur Rahman Bangladesh Bank Deputy General Manager 7120356 Coordinator
Imran Rahman BRAC Bank Deputy Managing Director 9862050 Member
AQM Kibriya Basic Bank Ltd. Company Secretary 9564831 Member
M Mustafizur Rahman Pubali Bank Ltd. Deputy General Manager 9551614 Member
Abdul Malek Sonali Bank Assistant General Manager Member

TABLE OF CONTENTS

PART – A      DEFINITIONS…………………………………………………….……..4 MINIMUM REQUITEMENT FOR SMALL ENTERPRISE FINANCING………..7

PART – B      PRUDENTIAL   REGULATIONS………………………………………9 Regulation  – 1                          Sources and capacity of repayment and cash flow backed lending…..…9 Regulation  – 2                            Personal Guarantees…………………………………………………… 9 Regulation  – 3                              Per party exposure limit…………………………………………….…. 9 Regulation  – 4                             Aggregate exposure of a Bank/ NBFI on SE sector……………………10 Regulation  – 5                           Limit on clean facilities………………………………………….……..10 Regulation  – 6                             Securities……………………………………………………………….10 Regulation  – 7                             Loan documentation…………………………………………………………….. 10

Regulation  – 8            Margin requirement…………………………………………………….12 Regulation  – 9                                  Credit Information Bureau (CIB) Clearance……..…………………….12 Regulation  – 10                                  Minimum condition for taking exposure……………………………….12 Regulation  – 11                                  Proper utilization of loan……………………………………………….12 Regulation  – 12                                  Restriction on facilities to related parties………………………………12 Regulation  – 13                                  Classification and provisioning for assets………………………..…….13

PART – C      DEVELOPMENT   GUIDELINES………………………………..…….14

1.   Policy Guidelines …………………………………………………..……………………15

  • Product Program Guidelines…………………………………………………………15
  • Segregation of Duties………………………………………………….……………..17
  • Credit Approval …………………………………………………….…….…….……17
  • Credit Approval Authority…………………………..……………………………….18

2.  Procedural Guidelines……………………………………………………………….…19

2.1    Approval       Process……………………………………………..……..……………19

TABLE OF CONTENTS

 

  • Maintenance of Negative Files………………………………………………..…19

2.2    Credit Administration……………………………….………………………….. .20

  • Credit  Documentation…………………………………………………….……..20
  • Disbursement………………………………………………….…………………20
  • Custodial  Duties…………………………………………………………………20
  • Compliance  Requirements…………………………………..…………………..20

2.3    Risk       Management……………………………………..……………………….…21

  • Credit  Risk……………………………………………………………….………21
  • Third Party Risk………………………………………………………….………21
  • Fraud  Risk…………………………………………………………..……………22
  • Liquidity & Funding Risk…………………………………………………….…22
  • Political & Economic Risk…………………………………….……………..…22
  • Operational  Risk…………………………………………………………………22
  • Maintenance of Documents & Securities………………………………………23
  • Internal  Audit…………………………………………………….……….……..23

2.4        Collection & Remedial Management ..……………………………………….…24

  • Monitoring……………………………………………………………………….24
  • Recovery………………………………………………………………………… 24
  • Collection  Objective…………………………………………………………..…24
    • Identification & Allocation of Accounts……………………………….……….25
    • Collection Steps…………………………………………………………….……25
    • Productivity  Tracking…………………………………………….……………..27
    • Agency  Arrangement…………………………………………….………………27

3.      Preferred Organogram and Responsibilities…………….………..………………….28

  • Preferred Organization Structure……………………………………..……….28
  • Key ……………………………………………………………………. 28

PART – D      APPENDIX………………………………………………………..……29

PART-A DEFINITIONS

 

For the purpose of these regulations:

  1. Bank means a banking company as defined in Banking Companies Act
  2. Borrower means an SE on which a bank has taken any exposure during the course of
  3. Contingent Liability means:
    • a possible obligation that arises from past events and whose existence will be confirmed only by the occurrence or non occurrence of one or more uncertain future events not wholly within the control of the enterprise; or
    • a present obligation that arises from past events but is not recognized because:
      • it is not probable that an outflow of resources embodying economic benefits will he required to settle the obligation; or
      • the amount of the obligation cannot be measured with sufficient reliability;

and includes line of credit, letters of guarantee, bid bonds I performance bonds, advance payment guarantees and underwriting commitments

  1. Documents include vouchers, cheques, bills, pay-orders, promissory notes, securities for leases/ advances and claims by or against the bank or other papers supporting entries in the books of a
  2. Equity of the Borrower includes paid-up capital, general reserves, balance in share premium account, reserve for issue of bonus shares and retained earnings/ accumulated losses, revaluation reserves on account of fixed assets and subordinated

Revaluation reserves will remain part of the equity for first three years only, from the date of asset revaluation, during which time the borrower will strengthen its equity base to enable it to avail facilities without the benefit of revaluation reserves.

  1. Exposure means financing facilities whether fund based and/ or non- fund based and includes:
  • Any form of financing facility extended or bills purchased/ discounted except ones drawn against the L/Cs of banks and duly accepted by such LC issuing banks/NBFIs.
  • Any financing facility extended or bills purchased/discounted on the guarantee of the
  • Subscription to or investment in shares, Participation Term Certificates, Term Finance Certificates or any other Commercial Paper by whatever name called (at book value) issued or guaranteed by the
  • Any financing obligation undertaken on behalf of the person under a letter of credit including a stand-by letter of credit, or similar
  • Loan repayment financial guarantees issued on behalf of the
  • Any obligations undertaken on behalf of the person under any other guarantees including underwriting
  • Acceptance / endorsements made on

(ix) Any other liability assumed on behalf of the client to advance funds pursuant to a contractual commitment.

  1. Forced Sale Value (FSV) means the value which fully reflects the possibility of price fluctuations and can currently be obtained by selling the mortgaged / pledged assets in a forced/ distressed sale
  2. Government Securities shall include such types of Bangladesh Taka obligations of the Government of Bangladesh or of a Corporation wholly owned or controlled, directly or indirectly, by the Government and guaranteed by the Government as the Government may, by notification in the Official Gazette, declare, to the extent determined from time to time, to be Government
  3. Group mean persons, whether natural or juridical, if one of them or his dependent family members or its subsidiary, have control or hold

Substantial ownership interest or have power to exercise significant influence over the other or are financially  interdependent on each other. For the purpose of this:

  • Subsidiary is defined as a company or a body corporate shall deemed to be a subsidiary of another company if that other company or body corporate directly or indirectly controls, beneficially owns, or holds more than 50% of its voting secreting or otherwise has power to elect and appoint more than 50% of its
  • Control refers to an ownership directly or indirectly through subsidiaries, of more than one half of voting power of an
  • Substantial ownership / affiliation means beneficial share holding of 10% (5% for banking companies / NBFIs) by a person and / or by his dependent family
  • Significant Influence refers to the management control of the company, to participate in financial and operating policies, cither exercised by representation in the Board Directors, partnership or by statute / agreement in the policy making process or affiliation or material inter-company
  • Financially Interdependent mean persons having financial liability with the others in excess of 10% the equity of the either, or either has guaranteed repayment of loan towards financial
  1. Liquid Securities mean securities readily convertible into cash without recourse of Liquid Securities for the purpose of these regulations shall mean realizable value of bank deposits, certificate of investments, Government securities (except for Savings Certificates), shares of listed companies on the active list of stock exchange, ICB Units and certificates of mutual funds. These securities should be in possession of the banks with perfected lien.
  2. Medium and Long Team Facilities mean facilities with maturities of more than one year and Short Term Facilities mean with maturities up to one
  3. Other Form of Security means hypothecation of stock (inventory), assignment of receivable, lease rentals, contract receivables, etc.
  4. Readily Realizable Assets mean and include liquid assets and stocks pledged to the banks in possession, with ‘perfected lien’ duly supported with complete
  5. Secured means exposure backed by tangible security and any other form of security with appropriate margins (in cases where margin has been prescribed by Bangladesh Bank, appropriate margin shall at least be equal to the prescribed margin). Exposure without any security or collateral is defined as
  6. Subordinated Loan means an unsecured loan extended to the borrower by its sponsors, subordinate to the claim of the bank taking exposure on the borrower and documented by a formal sub-ordination agreement between provider of the loan and the The loan shall be disclosed in the annual audited financial statements of the borrower as subordinated loan.
  7. Small Enterprise means an entity, ideally not a public limited company, does not employ more than 60 persons (if it is manufacturing concern) and 20 persons (if it is a trading concern) and 30 persons (if it is a service concern) and also fulfills the following criteria :
  8. A service concern with total assets at cost excluding land and building from 50,000 to Tk. 30 lac.
  9. A trading concern with total assets at cost excluding land and building from 50,000 to Tk. 50 lac.
  10. A manufacturing concern with total assets at cost excluding land and building from 50,000 to Tk. 1 crore.
  11. Equity means Capital & Reserves as defined in section 13 of Banking Companies Act
  12. Tangible Security means readily realizable assets (as defined in these Prudential Regulations), mortgage of land, plant, building, machinery and any other fixed

MINIMUM REQUIREMENTS FOR SMALL ENTERPRISE FINANCING

Apart from the specific regulations given under each mode of financing separately, general requirements laid down here should also be followed by the banks while undertaking Small Enterprise financing. It may by noted that these are the minimum requirements and should not in any way be construed to restrict the role of the management processes through establishing comprehensive credit risk management systems appropriate to their type, scope, sophistication and scale of operations. The Board of Directors of the banks are required to establish policies, procedures and practices to define risks, stipulate responsibilities, specify security requirements, design internal controls and then ensure strict compliance with them.

Pre -Operation:

Before embarking upon or undertaking Small Enterprise financing, the banks shall implement/follow the guidelines given below. The banks already involved in Small Enterprise financing will ensure compliance with these guidelines within six month of the date of issuance of Small Enterprise Financing Prudential Regulations.

  1. Banks shall establish separate Risk Management capacity for the purpose of Small Enterprise financing, which will be suitably staffed by personnel having sufficient expertise and experience in the field of consumer finance/business.
  2. The banks shall prepare comprehensive Small Enterprise credit policy duly approved by the Board of Directors, which shall interalia cover loan administration, including documentation, disbursement and appropriate monitoring The policy shall explicitly specify the functions, responsibilities and various staff positions, powers/authority relating to approval/sanction of consumer finance facility.
  3. For every type of Small Enterprise finance activity, the bank shall develop a specific Product Program Guide (PPG). The program shall include the objective/quantitative parameters for the eligibility of the borrower and determining the maximum permissible limit per The PPG will also indicate the maximum permissible exposure banks will take against each product.
  4. Bank shall put in place and efficient computer based MIS for the purpose of Small Enterprise finance, which should be able to effectively cater to the needs of Small Enterprise financing portfolio and should be flexible enough to generate necessary information reports used by the management for effective monitoring of the bank’s exposure in the The MIS is expected to generate the following periodical reports:
    • Delinquency reports (for 30, 60, 90 180 & 360 days and above) on monthly
    • Reports interrelating delinquencies with various type of customers of various attributes of the customers to  enable  the  management  to  take  important  policy  decisions  and  make appropriate modifications in the lending
    • Quarterly product wise profit and loss account duly adjusted with the provision on account of classified These profit and loss statements should be placed before the Board of Director in the immediate next Board Meeting. The branches of foreign banks in order to comply with these conditions shall place the reports before a committee comprising of Chief Executive Officer, Chief Finance Officer and Head of Small Enterprise.

  1. The banks shall develop comprehensive recovery procedures for the delinquent The recovery procedures may vary from product to product. However, distinct and objective triggers should be prescribed for taking pre-planned enforcement/recovery measures.
  2. The institutions starting consumer financing are encouraged to `impart sufficient training on an ongoing basis to their capability regarding the various aspects of Small Enterprise
  3. The banks shall prepare standardized set of borrowing and recourse documents (duly cleared by their legal counsels) for each type of Small Enterprise

Operations:

  1. Small Enterprise financing, like other credit facilities, must be subject to the Bank’s risk management process setup for this particular The process may include, identifying source of repayment and assessing customer’ ability to repay his/her past dealings with the bank, the net  worth  and  information  obtained  from  a  Credit  Information  Bureau  approved  by Bangladesh Bank.
  2. At the time of granting facility under various modes of Small Enterprise financing, banks shall obtain a written declaration from the borrower divulging details of various facilities already obtained from other The banks should carefully study the details given in the statement and allow fresh finance/limit only after ensuring that the total exposure in relation to the repayment capacity of the customer does not exceed the reasonable limits as laid down in the approved policies of the banks. The declaration will also help banks to avoid exposure against an enterprise having multiple facilities from different institutions.
  3. Internal audit and control function of the bank, apart from other things, should be designed and strengthened so that it can efficiently undertake an objective review of the Small Enterprise finance portfolio from time to assess various risks and possible The internal audit should also assess the adequacy of the internal control and ensure that the required policies and standards are developed and practiced. Internal audit should also comment on the steps taken by the management to rectify the weaknesses pointed out by them in their previous reports for reducing the level of risk.
  4. The banks shall ensure that their accounting and computer systems are well equipped to avoid charging of mark-up. For this purpose it should be ensured that the mark-up charged on the outstanding amount is kept separate from the
  5. The banks shall ensure that any repayment made by the borrower is accounted for before applying mark-up on the outstanding

Disclosure/Ethics:

The banks must clearly disclose all the important terms & conditions. Fees, charges and penalties, which are internal including interest rate, pre-payment penalties and the conditions under which that apply. For ease of reference and guidance of their customers, banks are encouraged to publish brochures regarding frequently asked questions.

PART-B

 

PRUDENTIAL REGULATIONS

 

REGULATION -1

SOURCE AND CAPACITY OF REPAYMENT AND CASH FLOW BACKED LENDING

Banks shall specifically identify the sources of repayment and asses the repayment capacity of the borrower on the basis of assets conversion cycle and expected future cash flows. In order to add value, the banks must assess conditions in the particular sector / industry they are lending to and its future prospects. The banks must be able to identify the key drivers of their borrowers businesses, the key risks to their businesses and their risk mitigants.

  1. The rationale and parameters used to project the future cash flows shall be documented and annexed with the cash flow analysis undertaken by the bank. It is recognized a large number of SEs will not be able to prepare future cash flows due to lack of sophistication and financial expertise. It is expected that in such cases banks shall assist the borrowers in obtaining the required information and no SE shall be declined access to credit merely on this ground (for details, refer Regulation – 10).

REGULATION -2 PERSONAL GUARANTEES

All facilities to SEs shall be backed by the personal guarantees of the owners of the SEs. In case of limited companies, guarantees of all directors other than nominee directors shall be obtained.

REGULATION -3

PER PARTY EXPOSURE LIMIT

The minimum and maximum exposure of a bank on a single SE shall remain within the range of Tk. 2 lac and Tk.50 lac respectively subject to the following:

  1. In case of working capital finance – Maximum up to 100% of the net required working capital or 75% of the sum total of inventory and receivables whichever is Please refer to Appendix XIV for calculation of net required working capital.
  2. In case of fixed assets purchase – Maximum up to 90% of the purchase price.

REGULATION -4

AGGREGATE EXPOSURE OF A BANK ON SMALL ENTERPRISE SECTOR

The aggregate exposure of a bank on SE sector shall not exceed the limits as specified below :

%  OF CLASSIFIED SE ADVANCES TO

TOTAL PORTFOLIO OF SE  ADVANCES

MAXIMUM LIMIT
a.         Below 5% 10 times of equity
b.         Below 10% 6 times of the equity
c.         Below 15% 4 times of the equity
d.         Up to and above 15% Up to the equity

REGULATION -5

LIMIT ON CLEAN FACILITES

In order to facilitate growth of smaller loans, banks are free to determine security requirements for loans up to Tk.5 lac. Guidelines for security requirements for loans of amounts more than Tk.5lac are given in Regulation-6.

REGULATION – 6 SECURITIES

Consequent to the regulation stated in Regulation -5, facilities provided to SEs shall be secured by banks as follows:

For loan amounting Tk. 2 lac to Tk. 5 lac.

As a minimum banks must take charge over assets being financed.

For loan amounting Tk. 5 lac to Tk. 50 lac

  1. Hypothecation on the inventory, receivables, advance payments, plant &
  2. Equitable mortgage over immovable properties with registered Power of
  3. Personal Guarantees of Spouse/Parents/other family
  4. One third party personal guarantee,
  5. Post dated cheques for each installment and one undated cheque for full loan value including full

REGULATION – 7

LOAN DOCUMENTATION

For all facilities, banks must obtain (as applicable) and not limiting to following documents before disbursement of loan can be made:

  • Loan Application Form duly signed by the
  • Acceptance of the terms and conditions of Sanction
  • Trade

4)       In case of Partnership Firm:

  1. Copy of Registered Partnership Deed duly certified as true copy or a partnership Deed on non- judicial stamp of 150 denomination duly notorised.

5)                 In case of  limited company:

  1. Copy of Memorandum & Articles of Association of the company including Certificate of incorporation duly certified by Registrar Joint Stock Companies (RJSC) and attested by the Managing Director accompanied by an up-to-date list of Directors,
  2. Copy of Board Resolution of the company for availing credit facilities and authorizing Managing Director/ Chairman/Director for execution of documents and operation of the accounts,
  3. An Undertaking not to change the management of the company and the memorandum and articles of the company without prior permission of the
  4. Copy of last audited financial statement up to last 3 years (as applicable and subject to Regulation-10)
  5. Personal Guarantee of all the Directors including the Chairman and Managing Director,
  6. Certificate of registration of charges over the fixed and floating assets of the company duly issued by RJSC,
  7. Certificate of registration of amendment of charges over the fixed and floating assets of the company duly issued by RJSC in case of repeat loan or change in terms and condition of Sanction Advice regarding loan amount, securities ,
  • Demand Promissory Note
  • Letter of hypothecation of stocks and goods
  • Letter of hypothecation of book debts & receivables
  • Letter of hypothecation of plant & machinery
  • Charge on fixed
  • Personal Letter of Guarantee
  • Wherever practical, insurance policy for 110% of the stock value covering all risks with bank’s mortgage clause in joint name of the bank and

REGULATION -8

MARGIN REQUIREMENTS

Banks shall adhere to the minimum margin requirement as prescribed by Bangladesh Bank (if any).

REGULATION -9

CREDIT INFORMATION BUREAU (CIB) CLEARANCE

While considering proposals for any exposure, banks should give due weightage to the credit report relating to the borrower and his group obtained from a Credit Information Bureau (CIB) of Bangladesh Bank. The condition of obtaining CIB report will be governed by rules & regulations as prescribed by Bangladesh Bank from time to time.

REGULATION -10

MINIMUM CONDITIONS FOR TAKING EXPOSURE

  1. Banks shall, as a matter of rule, obtain a copy of financial statements duly audited by a practicing Chartered Accountant, relating to the business of every borrower who is a limited company or where exposure of a banks exceeds 40 lac, for analysis and record. However, financial statements singed by the borrower will suffice where the exposure is fully secured by liquid assets.
  2. It is recognized that a large number of enterprises other than limited companies (i.e., sole proprietorship/partnership firms ) may not have proper books of accounts including balance sheet, profit & loss account and they may not be able to prepare current and future cash flows due to lack of sophistication and expertise. It is expected that in such cases, banks shall assist the borrowers in obtaining/developing such books of accounts as per forms/formats prescribed by each bank. Reference with regard to how the formats should be prepared has been made in the development guidelines.
  3. Each Bank shall develop their own Loan Application Form and ‘Borrowers Basic Fact Sheet’ (refer Appendix XIII). Banks shall not approve and/or provide any exposure (including renewal, enhancement and rescheduling) until and unless the prescribed Loan Application From is accompanied by a ‘Borrower’s Basic Fact Sheet under the seal and signature of the borrower.

REGULATION -11

PROPER  UTILIZATION OF LOAN

The Bank should ensure that the loans have been properly utilized by the SEs and for the same purposes for which they were acquired / obtained. Banks should develop and implement an appropriate system for monitoring the utilization of loans.

REGULATION -12

RESTRICTION ON FACILITIES TO RELATED PARTIES

Banks shall not take any exposure on a SE in which any of its director, shareholder, employee or their immediate family members are holding 5% or more of the share capital of the SE.

REGULATION -13

CLASSIFICATION AND PROVISIONING FOR ASSETS

LOANS / ADVANCES

Banks shall observe the prudential guidelines given at Appendix X in the matter of classification of their SME asset portfolio and provisioning there-against.

  1. In addition to the time-based criteria prescribed in Appendix X, subjective evaluation of performing and non-performing credit portfolio shall be made for risk assessment and, where considered necessary, any account including the performing account will be classified, and the category of classification determined on the basis of time based criteria shall be further Such evaluation shall be carried out on the basis of credit worthiness of the borrower, its cash flow, operation of the account, adequacy of the security, inclusive of its realizable value and documentation covering the advances.
  2. Apart from specific provisioning requirement as prescribed above, banks will create adequate general provision over the entire credit portfolio of Small Enterprise Therefore, all banks shall maintain at all times a general provision of 5% of SE assets outstanding in its books.

SUBMISSION OF RETURNS:

  1. Banks shall submit the borrower-wise annual statements regarding classified loans/ advances to the Banking Inspection

TIMING OF CREATING PROVISIONS:

  1. Banks shall review, at least on a quarterly basis, the collectibility of their loans / advances portfolio and shall properly document the evaluations so Shortfall in provisioning, if any, determined, as a result of quarterly assessment shall be provided for immediately in their books of accounts by the banks on quarterly basis.

REVERSAL OF PROVISION:

  1. The provision held against classified assets will only be released when cash realization starts
    • In case of loss category the net book value of the assets :
    • In case of doubtful category 50% of the net book value of the assets; and
    • In case of sub-standard category 25% of the net book value of the

Further, the provision made on the advice of Bangladesh Bank will not be reversed without prior approval of Bangladesh Bank.

VERIFICATION BY THE AUDITORS:

  1. The external auditors as a part of their audits of banks shall verify that all requirements of Regulation- 12 for classification and provisioning for assets have been complied Bangladesh Bank shall also check adequacy of provisioning during their on-site inspections.