In exercise of the powers vested upon Saudi Arabian Monetary Authority (SAMA) under the charter issued by the Royal Decree no. 23 on 23-05-1377AH (15 December 1957G) and the Banking Control Law promulgated by Royal Decree no. M/5 dated 22/2/1386AH. SAMA is hereby issuing the enclosed Rules on the Management of Problem Loans aimed to develop the practices followed by banks while dealing with loans showing signs of stress along with the loans already specified as nonperforming.

These rules should be read in conjunction with SAMA rules on Credit Risk Classification and Provisioning.

Also, SAMA issued the Guidelines on Management of Problem Loans as good practices to support banks in implementing these Rules.

The objectives of these rules are as follows:

• i. To ensure banks put in place a conceptual framework which would facilitate rehabilitation of viable borrower, thereby supporting economic activity.

• ii. To ensure banks look into aspects of customer conduct and fair treatment whilst dealing with problem loans, especially in instances involving the MSMEs.

• iii. To ensure banks have adequate controls over non-performing and problem loan management and restructuring processes, including documented policies and procedures.

These rules are applicable for all banks licensed under Banking Control Law.

The following terms and phrases, where used in these Rules, should have the corresponding meanings, unless the context requires otherwise:

• Problem loans: Loans that display well-defined weaknesses or signs of potential problems. Problem loans should be classified by the banks in accordance with accounting standards, and consistent with relevant regulations, as one or more of:

  • a) non-performing;

  • b) subject to restructuring on account of inability to service contractual payments;

  • c) IFRS 9 Stages 2; and exhibiting signs of significant credit deterioration or Stage 3;

  • d) under watch-list, early warning or enhanced monitoring measures; or

  • e) where concerns exist over the future stability of the borrower or on its ability to meet its financial obligations as they fall due.

• Non-performing loans: As stipulated in BCBS 403 “Guidelines – Prudential treatment of problem assets – definitions of non-performing exposures and forbearance” endorsed by SAMA through circular no. 381000099757 dated 23/09/1438AH.

• Watch-list: Loans that have displayed characteristics of a recent increase in credit risk, and are subject to enhanced monitoring and review by the bank.

• Early Warning Signals: Quantitative or qualitative indicators, based on liquidity, profitability, market, collateral and macroeconomic metrics.

• Cooperating borrower: A borrower which is actively working with a bank to resolve their problem loan.

• Viable borrower: Is that, wherein the loss of any concessions as a result of restructuring, is considered to be lower than the loss borne due to foreclosure.

• Viability Assessment: An assessment of borrower’s ability to generate adequate cash flow in order to service outstanding loans.

• Covenant: A Borrower’s commitment that certain activities will or will not be carried out.

• Key performance indicators: Indicators through which bank management or supervisor can assess the institution’s performance.

• Collateral: Are those, whose value can be considered whilst computing the recoverable amount for workout cases or foreclosed cases, on account of meeting the stipulated conditions laid out in these rules, as would be applicable based on the nature of the collateral.

• Failed restructuring: Any restructuring case where the borrower failed to repay the revised contractual cash flows as agreed upon with the bank and has transitioned into default. Further to the above, Banks should adopt all requirements relating to

  • i) Restructuring,

  • ii) Identification of forbearance;

  • iii) Identification of financial difficulty;

  • iv) Identification of concession; and

  • v) Stage allocation for forborne loans, as stipulated under SAMA Rules on Credit Risk Classification and Provisioning.

Banks should develop a clear, robust and demonstrable set of policies, procedures, tools, and governance around the establishment of Early Warning Signals (EWS) which are fully integrated into the bank’s risk management system.

The established EWS should be comprehensive and relevant to the specific portfolios of the Banks, and should enable Banks to proactively identify potential difficulties, investigate the drivers of the borrowers stress, and act before the borrower’s financial condition deteriorates to the point of default.

Banks should organize their EWS process in the following three stages:

• i. Identification of EWS: Banks’ EWS should, at a minimum, take into account indicators that point to potential payment difficulties. Individual banks should undertake an internal assessment as to which EWS are suitable for each of their lending portfolios taking into account a combination of the following:

  • a. Economic environment: Banks should monitor indicators of the overall economic environment, which are relevant for determining the future direction of loan quality, and not only the individual borrower’s ability to pay their obligations but also collateral valuations. Examples of economic indicators, based on the nature of the respective portfolios, can include GDP growth, Inflation/deflation, and unemployment, as well as indicators that may be specific to certain sectors/portfolios, e.g. commodity or real estate.

  • b. Financial indicators: Banks should establish a process in order to get frequent interim financial reports (or cash-flow/ turnover details for MSME) from their borrowers (e.g., quarterly for material loans to listed entities and semi-annual for all others), to ensure that EWS are generated in a timely manner. Examples of financial indicators, based on the nature of the respective portfolios, can include Debt/EBITDA, Capital adequacy, Interest coverage – EBITDA/ interest and principal expenses, Cash flow, Turnover (applicable for MSME).

  • c. Behavioral indicators: Banks should institute behavioral warning signals to assess the integrity and competency of key stakeholders of the borrower. These indicators will help in the assessment of how a borrower behaves in different situations. Examples of these indicators are: regular and consistent attempts at delaying financial reporting requirements; reluctance or unwillingness to respond to various communications, any attempt at deception or misrepresentation of facts, excessive delays in responding to a request for no valid reason.

  • d. Third-party indicators: Banks should organize a reliable screening process for information provided by third parties (e.g. rating agencies, General Authority of Zakat and Tax, press, and courts) to identify signs that could lead to a borrower’s inability to service its outstanding liabilities. Example of these indicators are: Default at other financial institutions / any negative information, insolvency proceedings for major supplier or customer, downgrade in external rating assigned and trends with respect to external ratings.

  • e. Operational indicators: Banks should establish a process where any changes in the borrower’s operations are flagged as soon as they occur. Examples of these indicators, based on the nature of the portfolio can include, frequent changes of suppliers, frequent changes of senior management, qualified audit reports, change of the ownership, major organizational change, management and shareholder contentiousness.

Banks should establish a comprehensive set of EWS that provide banks with an opportunity to act before the borrower’s financial condition deteriorates to the point of default, and enable them to proactively identify and flag other loans that have similar characteristics, i.e. multiple loan facilities extended to the same borrower, or borrowers in same sector that may be affected by the overall economic environment, or loans with similar type of collateral.

ii. Corrective action: Banks should have a proper written procedures to be followed in case any of the established EWS is triggered. The response procedure should clearly identify the roles and responsibilities of all the sections responsible for taking action on the triggered EWS, specific timelines for actions along with, identification of the cause and severity of the EWS.

iii. Monitoring: Banks should have a robust monitoring mechanism for following up on the triggered EWS, in order to ensure that the corrective action plan has been executed to preempt potential payment difficulties of the borrowers. The level and timing of the monitoring process should reflect the risk level of the borrower.

i. Banks should develop and implement an NPL strategy that is approved by the Board of Directors or its delegated authority.

ii. The NPL strategy should layout in a clear, concise manner the bank’s approach and objectives, and establish annual quantitative targets over a realistic but sufficiently ambitious timeframe, divided into short, medium and long-term horizons. It should serve as a roadmap for guiding the allocation of internal resources (human capital, information systems, and funding) and the design of proper controls (policies and procedures) to monitor interim performance and take corrective actions to ensure that the overall goals are met.

iii. The NPL strategy should consider all available options to deal with problem loans, where banks review the feasibility of such options and their respective financial impact. These include hold/restructuring strategies, active portfolio reductions through either sales and/or writing off provisioned NPLs that are deemed unrecoverable, taking collateral onto the balance sheet, legal options and out-ofcourt options.

iv. Banks should follow the principle of proportionality and materiality, while designing the NPL strategy, where adequate resources should be exhausted on specific segments of NPLs during the resolution process, including MSME’s.

i. Banks should ensure that the components of the NPL strategy are communicated to relevant stakeholders across the bank, and proper monitoring protocols are established, together with performance indicators.

ii. The NPL strategy should be backed by an operational plan detailing how the NPL strategy will be implemented. This should include clearly defining and documenting the roles, responsibilities, formal reporting lines and individual (or team) goals and incentives geared towards reaching the targets in the NPL strategy.

iii. Banks should put in place mechanisms for a regular review of the strategy and monitoring of its operational plan effectiveness and its integration into the bank’s risk management framework.