Prudential Regulations for SMEs

2012

 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 loans. Revaluation reserves will remain part of the equity for first three years only, from the date of asset revaluation
Any subsequent revaluation will be for a period of three years and only incremental amount will be added to equity Revaluation to be done by valuers approved by PBA. No parallel calculation required if revaluation reserves appear in audited financials of the company

Definitions

Definitions
Exposure means financing facilities whether fund based and/or non-fund based and includes: 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 conditions.

 Group means persons, whether natural or juridical, if one of them or his dependent family members or its subsidiary, have control or hold substantial ownership interest over the other
Subsidiary 50% or more ownership Control 50% or more ownership through subsidiaries Substantial ownership / Affiliation Shareholding of more than 25%

Liquid Assets

 Liquid Assets
are the assets which are readily convertible into cash without recourse to a court of law and mean encashment/realizable value of government securities, bank deposits, gold ornaments, gold bullion , certificates of deposit, shares of listed companies which are actively traded on the stock exchange, NIT Units, certificates of mutual funds, Certificates of Investment (COIs) issued by DFIs/NBFCs rated at least A by a credit rating agency
1

 Liquid Assets:
Guarantees issued by domestic banks/DFIs when received as collateral Guarantees issued by foreign banks, the issuing banks rating, should be A and above or equivalent.

Medium and Long Term Facilities

mean facilities with maturities of more than one year and

Short Term Facilities

mean facilities with maturities up to one year

 PBA means Pakistan Banks Association Readily Realizable Assets

mean and include liquid assets and stocks pledged to the banks/DFIs in possession, with perfected lien duly supported with complete documentation.

Secured
means exposure backed by tangible security and any other form of security with appropriate margins

 Subordinated Loan
means an unsecured loan, extended to the borrower for a minimum original maturity period of 5 years Documented by an agreement To be disclosed in the audited financials

 Clean Exposure
Means exposure secured against personal guarantee of owners of SME

Small and Medium Enterprise means an entity, ideally not a public limited company, which does not employ more than 250 persons and meets the following criteria:

Type of organization

Total assets excluding land and building less than Rs. 50 Million less than Rs. 100 Million

Net sales as per audited financials Not exceeding Rs. 300 M Not exceeding Rs. 300 M

Trading / Service Concern Manufacturing Concern

 Tangible Security
means readily realizable assets (as defined in these Prudential Regulations), mortgage of land, plant, building, machinery and any other fixed assets.

 R 1 SOURCE AND CAPACITY OF REPAYMENT AND CASH FLOW BACKED LENDING

Banks/DFIs shall specifically identify the sources of repayment and assess the repayment capacity of the borrower on the basis of assets conversion cycle and expected future cash flows. Condition of borrowers industry Identify key drivers of business and risks/ mitigants

 Projected Cash flows of SME are required

Assumptions must be documented If SME is not able to prepare cash flows then bank to assist it in its preparation and not decline the loan on this basis

R 2 Personal Guarantees
PG of all owners of SME are required Exception
Facilities secured against liquid assets Nominee Directors of a limited company

 R 3 Limit on clean facilities

Limit on clean exposure (against PG) of SME
Total (fund based and non fund based) Rs 3 Million Fund based Rs. 2 Million

Declaration from SME that, in aggregate, it is not breaching this limit Clean exposure to SME will not include credit card and personal loan allowed to sponsors

 R 4 Securities:
All facilities must be appropriately secured to the satisfaction of Bank except for relaxation in R 3.

R 5 Margin Requirements:
Banks/DFIs are free to determine the margin requirements on facilities provided by them to their clients taking into account the risk profile of the borrower Margin restrictions on shares / TFCs 30% as per Corporate PRs

 R 5 Margin Requirements:
100% margin on import of caustic soda SBP may change the margin requirements any time Restrictions in para 1A of R-6 of Corporate PR will apply

 R 6 PER PARTY EXPOSURE LIMIT

Maximum exposure of a bank / DFI on single SME not to exceed Rs. 75 Million. Total facilities of an SME from all financial institutions should not exceed Rs. 150 Million such that facilities excluding leased assets should not exceed Rs. 100 Million.

 R 7 AGGREGATE EXPOSURE OF A BANK/DFI ON SME SECTOR

should not exceed the following limits

 R 8 MINIMUM CONDITIONS FOR TAKING EXPOSURE

CIB report
While considering proposals for any exposure (including renewal, enhancement and rescheduling/restructuring) exceeding such limit as may be prescribed by State Bank of Pakistan from time to time (presently at Rs 500,000/-), banks/DFIs should give due weightage to the credit report relating to the borrower and his group obtained from a Credit Information Bureau (CIB) of State Bank of Pakistan. Exposure on defaulters after recording reasons and justifications Exposure excludes net liquid assets

 CIB
SME association may be contacted to ascertain character and creditworthiness of borrower

Audited financial statements

Must be obtained when exposure exceeds Rs. 10 M for analysis and record Chartered accountant or Cost and Management accountant (CMA) may be the auditor CMA cant audit financials of public limited companies or private limited companies which is a subsidiary of public limited company This requirement may be waived when exposure does not exceeds Rs. 10 M. When facilities are 100% backed by liquid assets financials signed by borrower are sufficient

 BBFS (Borrower Basic Fact Sheet)

Required for all exposures (including renewal, enhancement and rescheduling/restructuring) Loan application form must be accompanied by BBFS Seal/Stamp and signature of the borrower are required on each page of BBFS Individual borrowers and sole proprietorship concerns are exempt from requirement of stamp

 R 9 Proper Utilization of Loan

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

 R 10 RESTRICTION ON FACILITIES TO RELATED PARTIES

Facilities to related parties are not allowed. The bank/DFI shall not take any exposure on a SME in which any of its director, major shareholder holding 5% or more of the share capital of the bank/DFI, its Chief Executive or an employee or any family member of these persons is interested.

 R 11 CLASSIFICATION AND PROVISIONING FOR ASSETS

Guidelines in annexure III to be followed for provisioning (Time based criteria)

Classification

Determinant

Treatment of Income Provisions to be made

Substandard

Mark up or Principal overdue by 90 days

Un realized income to be kept in memorandum account. Amount taken to income to be moved to memo account

25% * ( Outstanding Principal liquid assets upto 75% FSV of stocks, machinery and mortgaged properties)
50% * ( Outstanding Principal liquid assets upto 75% FSV of stocks, machy and mortgaged properties) 100% * ( Outstanding Principal liquid assets Upto 75% FSV of stocks, machinery and mortgaged properties)

Doubtful

Mark up or Principal overdue by 180 days Same as above

Loss

Mark up or Principal overdue by 365 days Same as above Trade bills not adjusted within 180 days

 Please refer to BSD circular of Oct 2011

R - 11
Subjective evaluation of performing and nonperforming credit portfolio shall be made for risk assessment. Even performing account may be classified. evaluation shall be carried out Criteria for subjective evaluation:
credit worthiness of the borrower its cash flow operation in the account adequacy of the security, inclusive of its realizable value documentation covering the advances.

 The rescheduling/restructuring of nonperforming loans shall not change the status of classification of a loan/advance etc. unless
the terms and conditions of rescheduling/ restructuring are fully met for a period of at least one year (excluding grace period, if any) At least 10% of the outstanding amount is recovered in cash

 The unrealized mark-up on loans (declassified after rescheduling/restructuring) shall not be taken to income account unless at least 50% of the amount (Profit) is realized in cash Any short recovery (cash) of profit will not change status of account if (10% principal has been recovered and terms have been met for 1 year)

 In CIB rescheduled / restructured loans not to be reported as default. Default subsequent to rescheduling / restructuring:
Loan will again be classified in the same category prior to rescheduling / restructuring Unrealized profit taken to income to be reversed Banks may subjectively further downgrade the account

 At the time of rescheduling/restructuring, banks/DFIs shall consider and examine the requests for working capital strictly on merit, keeping in view the viability of the project/ business and appropriately securing their interest etc Separate monitoring of such loans to be done. They may be classified on the strength of their own terms and conditions

 Factors to be considered with making provisions:

benefit of 40% of Forced Sale Value (FSV) of the pledged stocks and mortgaged residential, commercial and industrial properties (building only) held as collateral against NPLs for three years (This 40% amount has been revised) FSV of Land 4 years, Separate valuation must be available

 Banks may avail the benefit of FSV subject to the following conditions:
Additional impact of profitability from using FSV will not be used for paying cash or stock dividend. Head of Credit must determine that FSV is calculated accurately Party-wise details of such cases must be maintained on file for verification by SBP

 Misuse of FSV benefit:

Any misuse of FSV benefit detected during regular/special inspection of State Bank shall attract strict punitive action

Timing of creating provisions:

Quarterly (Evaluation and provisioning)

 Reversal of provisions: In case of cash recovery, other than rescheduling/restructuring, banks/DFIs may reverse specific provision held against classified assets, subject to the following:
i) In case of Loss account, reversal may be made to the extent that the remaining outstanding amount of the classified asset is covered by minimum 100% provision. ii) In case of Doubtful account, reversal may be made to the extent that the remaining outstanding amount of the classified asset is covered by minimum 50% provision. iii) In case of substandard account, reversal may be made to the extent that the remaining outstanding amount of the classified asset is covered by minimum 25% provision

 Netting off liquid assets is allowed Provisioning done by SBP can only be reversed with prior permission of SBP. External auditors will confirm that the requirements of classification and provisioning have been met

 Annexure IV UNIFORM CRITERIA FOR DETERMINING THE VALUE OF PLEDGED STOCK AND MORTGAGED PROPERTIES REGULATION (R-11) Please refer to BSD circular of Oct 2011

Benefit of FSV

Annexure IV UNIFORM CRITERIA FOR DETERMINING THE VALUE OF PLEDGED STOCK AND MORTGAGED PROPERTIES REGULATION

Only liquid assets, pledged stock, plant & machinery under charge, and property having registered or equitable mortgage shall be considered for taking benefit for provisioning Hypothecated assets and assets with second charge and floating charge shall not be considered for taking the benefit for provisioning.

Annexure IV
Valuation by PBA approved valuer
FSV must be mentioned All assumptions must be mentioned Comprehensive valuation

Full scope valuation in first year and desktop valuation in subsequent years. Full scope valuation is valid for three years

Annexure IV
For amount exceeding Rs. 100 M desktop valuation to be done by the same valuer who conducted full scope valuation. For amount less than Rs. 100 M desktop valuation can be done by the bank or any other PBA approved valuer. Desktop valuations to be used only for additional provisioning and not for reducing provisioning requirements

Annexure IV
If borrower does not allow the bank to enter their premises then full scope valuation conducted as such will not be acceptable for provisioning benefit. SBP may check valuations on random basis and any unjustified differences in the valuations of banks / DFIs and State Bank of Pakistan shall render the concerned bank/DFI and evaluator to penal actions including, inter alia, withdrawal of FSV benefit.

Annexure IV
Assets to be considered for valuation:
Liquid assets:
Valuation determined by the bank / DFI itself and verified by the external auditors. Value of shares at market value at balance sheet date Shares must be registered with CDC

Mortgaged Property, and Plant & Machinery under Charge

Would be acceptable as done by the valuer

Pledged stock
valuation should not be more than six months old, at each balance sheet date. The goods should be perfectly pledged, the operation of the godown(s) or warehouse(s) should be in the control of the bank/DFI and regular valid insurance and other documents should be available. In case of perishable goods, the evaluator should also give the approximate date of complete erosion of value.