CREDIT POLICY MANAGEMENT AND LOAN RECOVERY PROCESS IN THE BANKING SECTOR: A CASE STUDY OF POST BANK UGANDA
(KABALE BRANCH).
BY
AINEBYONA FORTUNATE
07/U/6298/EXT
SUPERVISOR
MR.KINTU ISMAIL
A RESEARCH REPORT SUBMITTED TO MAKERERE UNIVERSITY SCHOOL
OF LONG LIFE LEARNING AND EXTERNAL STUDIES IN PARTIAL
FULFILLMENT OF THE REQUIREMENTS FOR THE AWARD
OF THE BACHELORS OF COMMERCE DEGREE OF
MAKEREREUNIVERSITY
MAY 2011
1
DECLARATION
I here by declare that this research report is my original work and has never been submitted in any institution of higher learning for any degree award.
Signature…………………………………………………………………..
AINEBYONA FORTUNATE
Date…………………………………………………………………………
APPROVAL
This is to certify that the research report entitled Credit policy management and Loan recovery process in the banking sector has been done under my supervision and is ready for submission for examination.
Signature………………………………………………………………………
MR. KINTU ISMAIL
Date…………………………………………………………………………………
DEDICATION
I dedicate this report to my parents Mr. kamugisha Joseph and Mrs. Kamugisha Jacent who have supported me all the way through my academic journey, and also to my Auntie Miss Byensi Florence.
ACKNOWLEDGEMENT
I am thankful to the Almighty who has through all my academic struggles up to the rightful completion of my research report as well.
I also extend my sincere thanks supervisor Mr. Kintu Ismail for his consistent encouragement, guidance, and knowledge which enabled me to conclude my research successful.
I am also great fully indebted to the management and staff of post bank Uganda for giving me a chance and accepted me to carry out this research in their bank and having provided me with the necessary information that enabled me to finish my research successful.
I express my gratitude to Mr. Ayebazibwe Conald who has been a source of inspiration towards the successful realization of what I set out to achieve.
I also take this opportunity to acknowledge my friends Kyarisiima Florence,Kyarimpa Hellen and Muwonge Henry Lukwata who have guided, supported and encouraged me through out my research and above for their academic support while I was pursuing my degree through out all my academic years.
Special thanks go to my lecturers I have met all my time I have been at the university for all the many comments, suggestions which have been a source of inspiration and encouragement throughout my time at the university.
Finally, I want to thank Mr. A . Duncan for his efforts right from the start of my research until up to it’s completion.
I will forever remain sincerely indebted to you all.
May the Almighty God reward you all unmeasureably.
TABLE OF CONTENT
DECLARATION
APPROVAL
DEDICATION
ACKNOWLEDGEMENT
TABLE OF CONTENT
LIST OF TABLES
LIST OF ACRONYMNS
ABSTRACT
CHAPTER ONE
1.0 INTRODUCTION
1.1 BACKGROUND OF THE STUDY
1.2 Statement of the problem
1.3 Purpose of the study
1.4 Objectives of the study
1.5 Research Questions
1.6 Scope of the study
1.6.1 Geographical scope
1.6.2 Subject scope
1.6.3 Time scope
1.7 Significance of the study
CHAPTER TWO
LITERATURE REVIEW
2.0 Introduction
2.1 Credit management policy
2.1.1 Credit Standards
2.1.2 Credit terms
2.1.3 Collection efforts
2.2 LOAN RECOVERY
2.2.1 Political causes
2.2.2 Institutional causes
2.2.3 Economic causes
2.2.4. Loan recovery methods include;
2.3. RELATIONSHIP BETWEEN CREDIT MANAGEMENT POLICY AND LOAN RECOVERY
2.4 Conclusions
CHAPTER THREE
METHODOLOGY
3.0 INTRODUCTION
3.1 Research design
3.2 Target Population
3.3 Sampling
3.3.1 Sample size
3.3.2 Sampling methods
3.4 Data Collection
3.4.1 Data sources
3.5 Data collection methods
3.5.1 Questionnaires
3.5.2 Interviews
3.6 Data collection instruments
3.6.1 Interviews
3.6.2 Self Administered Questionnaire
3.7 Data processing, summary and presentation and Analysis3.7.1 Data processing
3.7.2 Data summary and presentation
3.7.3 Data analysis
CHAPTER FOUR
PRESENTATION, ANALYSIS AND DISSCUSSION OF FINDINGS
4.0. INTRODUTION
4.1. BACKGROUND OF FINDINGS
4.2 FINDINGS ON THE CREDIT MANAGEMENT POLICY OF POST BANK UGANDA
4.3 FINDINGS ON LOAN RECOVERY
4.4 FINDINDS ON THE RELATIONSHIP BETWEEN CREDIT MANAGEMENT POLICY AND LOAN RECOVERY OF POST BANK
CHAPTER FIVE
SUMMARY OF FINDINGS, CONCLUSIONS AND RECOMMENDATIONS
5.0 Introduction.
5.1 Discussion of findings.
5.1.1 Credit management policy
5.1.2 Loan recovery
5.2 Summary of findings
5.2.1 On the credit policy management, majority
5.2.2 On the loan recovery procedures employed by post bank,
5.2.3 On the relationship between credit policy management and loan recovery,
5.3 Conclusions
5.4 Recommendations
5.5 Areas of further research
REFERENCES
APPENDIX……………………………………………………………………………………………………………………………………………...34
QUESTIONNAIRE TO THE RESPONDENTS FROM CREDIT OFFICIALS OF POST BANK UGANDA (KABALE BRANCH)
INTRODUCTORY LETTER…………………………………………..………………………..37LIST OF TABLES
Table 1; showing sex o f the respondents...... 15
Table 3; Showing education level of respondent...... 16
Table 2: Showing the age of respondents...... 16
Table 5: showing the sector which the bank offers loans to...... 17
Table 4: Showing the period of employment /client ship with the bank...... 17
Table 6; Showing loan types offered...... 18
Table 7: Findings on whether there are standard procedures of giving out loans...... 18
Table 8; Findings on whether relevant information is collected from loan applicants before disbursements. 19
Table 9: Findings on whether loans are extended on liberal terms to the extent of the whole amount required by the client. 19
Table 10: Findings on whether short term loans are first given out to test the credit worthiness of the clients. 20
Table 11: Findings on whether collateral security is required before advancing the loan amount. 20
Table 12; Findings on whether loan follow up and monitoring is done to check the viability of the clients loan project. 21
Table 13: Findings on whether loans are offered for a long period of time...... 21
Table: 14 Findings on whether there are procedures to collect principle amount and interest due the loan from clients. 22
Table 15: Findings on whether clients pay their debts on the due date...... 22
Table 16: Findings on whether clients fail to pay their debts due to failure in their loan projects. 23
Table 17: Findings on whether clients fail to pay outstanding balance due to high interest rate attached. 23
Table 18: Findings on whether there are fines instituted due to failure to pay the principle amount and the accrued interest in time. 24
Table 19: Findings on the efficiency of the loan recovery system...... 24
Table 20: Findings on whether procedures for loan disbursements are liberal that whoever wants the loan is given and pays at the time he/she feels like. 25
Table 21: Findings on whether clients who fail to pay back the loan are written off as bad debts. 25
Table 22: Findings on whether the bank invests much money in loan collection and it benefits for the bank as loans are recovered in time. 26
Table 23: Findings whether credit management system of post bank is so inefficient to enhance loans collection. 26
Table 24: Finding on whether loan disbursement without security is most likely to result into default of payment by the client. 27
Table 25: Findings on whether credit management policy of post bank enhances loan recovery without involving much financial costs. 27
Table 26: Findings on whether the level of loan default would be so high without the credit management policy currently in place 28
Table27; Showing computation of spearman’s correlation coefficient Correlations...... 28
LIST OF ACRONYMNS
B.O.U - Bank of Uganda
U.C.B- Uganda Commercial Bank
A.C.P- Average Collection Period
N.P.Ls- Non-Performing Loans
ABSTRACT
The study was focused on credit management policy and loan recovery with post bank Uganda with the main objective of finding out the relationship between the two variables of credit policy and loan recovery, examining the credit policy management of post bank and examining the loan recovery levels of post bank.
In this study a sample size of 40 people was used from whom data was obtained. Purposive sampling technique was used in selection of the samples and it’s from this that I found out that effective credit policy in post bank leads to effective loan recovery.
A cross-sectional survey research design was used to investigate the relationship between the variables, analytical and descriptive research designs.
It was also found out that post bank has got well established loan recovery procedures among which include; telephone calls to debtors, sending reminding letters to the clients, and taking legal action on clients who fail to pay back the loan.
The findings also revealed that there is a moderate relationship of (0.505) between credit policy management and loan recovery and coefficient of determination of (25.5%) Thus this indicates that effective credit policies result into effective loan recovery.
It is therefore concluded that that the bad debts that are incurred by the bank as indicated in the problem statement areas a result of the irrelevancy of the credit officials to effectively follow up the procedures for recovering the loan.
It is therefore recommended that the credit policies in place should be followed by the credit officials and also put in place better strategies that will to effective loan recovery.
The suggested ones include; regular training of credit officials, strict customer screening before advancing the loan for example finding out past behaviors of the client, asking for securities, finding out the credit worthiness of the clients, and regular reminding of the time to pay back the loan to the debtors.
Taking legal action against the clients who default paying back the loan should be taken before the outstanding debts are completely written off as bad debts.
1
CHAPTER ONE
1.0 INTRODUCTION
This chapter will cover background of the study, problem statement, purpose of the study, objectives of the study, research questions, scope of the study and significance of the study.
1.1 BACKGROUND OF THE STUDY
Credit management policy is a framework formulated by an organization as a guide for credit decisions (Kakuru, 2003).These involve guidelines on the analysis of credit worthiness of a customer, terms and conditions of credit and assessment of the ability to pay in order to enhance loan recovery (Pandey, 2000).it is basically about three major aspects which when properly handled will lead to easy recovery of the loan. Some of these aspects include evaluation of credit applicants, advancing loans to successful applicants and monitoring advanced loans to remain performing. However, with licensing of many banks in Uganda competition increased especially in banking sector and this resulted into relaxed credit policy management which has resulted into loan default.
Credit management is a banking practice of evaluating loan applicants, advancing loans to successful applicants monitoring loans and recovering those that have matured. (kyagulanyi 1999), when functionefficiently, credit management serves as an excellent way for the business to remain finanancially stable.(Malcolm Tatum 2003).
Once the firm has taken the decision to extend credit to the applicant, the amount and duration of credit has to be decided. However the decision on the magnitude of the credit will depend on customer’s financial strength since this has a direct bearing on loan recovery.
On the other hand, loan recovery is the process which involves the procedures that the bank uses to collect its money from the debtors. It’s how loans disbursed to clients are paid back (Henni, 1998).It is a measure undertaken by the lending institution to ensure the repayment of loans by its clients (America, 2003).
Credit policy includes the credit standards, creditterms, and collection procedures. While that of the loan recovery process are the collateral security, Group members guarantee, saving deposits and current accounts.
Sufficient information should be collected about credit applicants and this should be done in a bid to minimize losses as a result of investing in vulnerable clients. Sources of such information may be obtained from company’scompetitors, associatesuppliers, individual applicants themselves (Allen and Gregory, 2000).
The firm/bank needs to continuously monitor and control its credit clients to ensure the success of collection efforts. But then the firm/bank should not extend collection periods since this will lead to delays in cash flows which affect the liquidity position of the bank and also it will increase the chances of bad-debts losses.
Since 2002, Post Bank has pursued a policy of aggressive growth combined with tight credit management policy in order to enhance loan recovery. As a result Post bank is now enjoying huge profits because of this effort.
Despite of the credit management policies like interest charged, paymentperiods, creditworthiness of customers, collateral security to obtain the loan, assessment of the ability to monitor the credit, therate of credit return in Post bank has not been 100% hence this means that something must be done to evaluate why some customers do not respond in returning the credit that was extended to them. This is seen in the 2006 Post bank annual report whereby out of 100% expected loan recovery, only 85% was recovered in the stipulated period. Thus this clearly indicates that once better policies have been identified and applied by PostBank, the rate of loan recovery will improve byat least to 100% and hence the reason for conducting this research.
1.2 Statement of the problem
Loan management is an effort aimed at monitoring loans right from the time of loan application to maturity; it also involves evaluation of credit applicants, repayment of loans by the clients, planning procedures to recover back the loans from clients.
The credit policies adopted by post bank are; loan application from members, monthly savings to guarantee, members loans, loan recovery for the credit from loan applicants, policy on delinquency i.e. loans which have gone bad and have gone beyond 90days and such loans attract a penalty, policy on loan monitoring to make sure that such loans don’t go bad and don’t go in arrears.
Despite the fact that post bank has adopted the above credit policies the bank has had challenges recovering its debt from clients hence the problem statement.
The bank started with a loan portfolio of over 5 billion Uganda shillings and it now has a portfolio of over 20 billion Uganda shillings (Management report to directors, 2003)
Despite the fact that post bank had a significant gain in performance in the past financial years reporting a decline in bad debts from 25%-15% for the year 2002-2003,in the financial year 2004-2010,Post bank Uganda faced hardships in the loan recovery with credit extended to customers without timely corresponding returns hence reporting an increase in bad debts from 15%-20% which leads to a loss of over US $94800 as bad debts written off (auditor’s report to directors,2005).
1.3 Purpose of the study
The purpose of the study was to establish the impact of creditmanagement’s policieson loan recovery.
1.4 Objectives of the study
1. To examine the credit management policy of Post bank Uganda
2. To examine the loan recovery levels of Post bank Uganda
3. To establish the relationship between credit management policy and loan recovery of Post bank Uganda.
1.5 Research Questions
1. What is the credit management system of Post bank Uganda?
2. What is the level of loan recovery in Post bank Uganda?
3. What is the relationship between credit management policy and loan recovery in Post bank?
1.6 Scope of the study
1.6.1 Geographical scope
The study was carried out in Post bank Uganda Kabale branch
1.6.2 Subject scope
The study was focused on the impact of credit management policy on loan recovery.
1.6.3 Time scope
The study was focused on the financial years 2004-2010.
1.7 Significance of the study
- The study will help the researcher to improve on her knowledge of credit policy and loan recovery management in the banking sector in Uganda, and lead to an award of a bachelor of commerce degree.
- The study will help to improve on the credit policymanagement system and loan recovery of PostUganda.
- The study will be the basis upon which appropriate policy for credit extension especially with financial institutions will be formulated. This will help them minimize losses.
- The study will facilitate further research in areas related to credit management policy and loan recovery in financial institutions in Uganda.
CHAPTER TWO
LITERATURE REVIEW
2.0 Introduction
In this chapter review of literature will be done in accordance with the study variables. This chapter entails the theory of different scholars in relation to credit policy management. Thus the literature reviewed will be drawn from some empirical surveys of credit management as part of financial management.
2.1 Credit management policy
Credit is the money that is owed to a business or firm. This arises when there is a gap or time lag between the points when credit is acquired and when payment is received from the client (Kakuru, 2000). Credit policy is a framework formulated by an organization as a guide to credit decision,(Kakuru,2000). These involve guidelines on the analysis of credit worthiness of a customer, terms and conditions of credit and assessment of the ability to monitor the credit.
He further says that credit policy is a set of policy actions designed to minimize costs associated with maximizing the benefit.
Consumer credit is a philosophy of ‘buy now; pay later” the organization delivers a service, a product now and allows a delay in receiving payment from the consumers. The credit supplier must gain an acceptable level of confidence to extend the maximum of credit at the lowest possible risk of loss.
Credit policy can also be defined as an institution’s method of analyzing credit request and its decision criteria for accepting or rejecting application (Administer 1980) the term credit policy is used to refer to a combination of three decision variablesincluding credit standards, credit terms and collection efforts.
2.1.1 Credit Standards
These are criterias which a firm follows in selecting customers for the purpose of credit extension (Kakuru, 2000).Credit standards provide guidelines for determining whether to extend credit to a customer or not how much credit to extend.
.In order to analyze customers and set credit standards,(Kakuru,2000). Two aspects should be considered and these include; the average collection period (ACP) that is the period in which the debts remain outstanding and the ratio of uncollected receivables to the total receivables. Fromthis, the firm is able to determine whether the customer will meet his credit obligations or not. He also mentioned that to estimate the profitability, the financial manager should consider the aspects of character, capacity, condition, capital and collateral security.