In this report we will study three companies from different financial sectors, i.e., Bank, Insurance, or Investment, etc based on their annual reports for year 2007, and 2008. We will focus on capital management and allocation section of the report in particular and analyze a company's response for Enterprise Risk Management (ERM) based o the different factors. In this short report we will be considering, Gulf Finance House (GFH, 2007), (GFH, 2008), Investment Bank (InvestB, 2007), (InvestB, 2008), and Dubai Islamic Bank (DIB, 2007), (DIB, 2008), and use their short form from now on.
Enterprise Risk ManagementAnalysis:
Here we describe the Structure of Tier-1 and Tier-2 capital data of FIs (Financial Institutions) and risk weighted factor in last 2 years.
The Risk weighted exposure of the year 2008 for GFH included credit risk, market risk and operational risk and the tier-1 and tier-2 capital base was 3,709,185. At InvestB, the regulatory capital is analyzed into two tiers, Tier-1 capital (include share capital, reserve and retained earning) and Tier-2 capital (include subordinated liabilities, collective impairments allowances and element of the fair value reserve relating o unrealized gains). The bank has invested in IT system to assist automatic mapping of the risk exposure etc by calculating a Risk Adjusting Return on Capital (RAROC). Its total risk weighted assets were 6,707,273 in 2007.
The UAE central regulate the DIB's capital requirement for the group as a whole as per its circular No 13 / 93 in two tiers i.e., Tier-1 (ordinary share capital, share premium, retained earnings, translation reserve and minority interests after deductions for goodwill and intangible assets) and Tier-2 (subordinated liabilities, collective impairment allowances and the element of the fair value reserve). The Group's capital management is to ensure that the Group complies with externally imposed capital requirements and that the Group maintains strong credit ratings and healthy capital ratios in order to support its business and to maximize shareholders' value. The Tier-1 total capital was 8,423,170 in 2007 and Tier-2 was 5,688,211.Evaluation: Risk Management Frameworks & Processes at FIs
The GFH overall framework with its components is shown in the figure 1. The InvertB, risk management framework consists of the exposure to credit, liquidity, market, operation and legal and compliance risk. Since we did not found figure from document we will shortly describer it here. The board of directors has overall responsibility to oversight of framework, also assisted by boards committee and ALCO committee. The risks for bank are identified. This year bank is in process of upgrading its risk management framework to embrace an enterprise risk management ERM.Scope and nature of risk reporting tools
At GFH, RMD plays pivotal role in monitoring risk and recommending risk analysis tools and techniques and lays down guidelines for its monitoring and control. The group has fair value, valuation models and accepted economic methodologies. The risk management framework is based on Risk Management Department (RMD) to provide independent monitoring and control and works closely with business units which ultimately own the risks. The head of the RMD reports directly to the CEO and have access to the chairman and Board of Directors.
The InvestB has framework for risk analyses and identification and this will be further by the introduction of Enterprise risk management (ERM).
At DIB, risk is it is managed through a process of ongoing identification, measurement and monitoring, subject to risk limits and other controls. The Group is exposed to credit risk, liquidity risk and market risk, the latter being subdivided into trading and non-trading risks. It is also subject to operating risks. The independent risk control process does not include business risks such as changes in the environment, technology and industry. They are monitored through the Group's strategic planning process. The risk management structure consist of in hierarchical order; board of directors, risk management committee, risk management control, treasury and internal audit.
The Group measures risks using conventional qualitative methods for credit, market and operational risks. Further, the Group also uses quantitative analysis and methods to support revisions in business and risk strategies as and when required.Credit risk management
Credit risk is the risk of financial loss to the Group if a customer or function fails to meet its contractual obligations.
The Board of Directors has delegated the management of credit to its Board of Investment Committee (BIC). The GFH has strong internal process of monitoring credit risk. It does not grant credit facilities in normal business activities. The bank has credit related policies for its short term investment projects. The policies are supplemented by internal authorization structure for the approval and renewal of investment and credit related facilities. The authorization limits are also allocated to Executive Management and larger decisions require approval of executive Investment Committee and the board of Directors. The RMD assesses all the investment and credit proposals. Quarterly updates of investments are reviewed by Board of Directors. The regular audit of business units and credit processes are done by Internal Audit.
The board of directors had delegated some of responsibilities of the management of credit risk to Executive Committee (EC) and Credit Committee (CC) at InvestB. Its objective is to formulate policies in consultation with the business units, covering collateral requirements, credit assessment, risk management, risk grading and reporting, documentary and legal procedures, and compliance with regulatory and statuary requirements and recommending credit policies for board approval. Further, it is responsible for establishing authorization structure, reviewing and assessing credit risk, bank risk grading, limiting credit exposure and usage of a clearing agent.
The DIB Group has established a credit quality review process to provide early identification of possible changes in the creditworthiness of counterparties. It review process allows the Group to assess the potential loss as a result of the risks to which it is exposed. It include credit related commitment risk and Islamic financial instruments. In 2006 and 2007 and maximum exposure risk was 104,977,232 and 76,357,130 respectively.Marketable risks of tradable securities management
Market risk is the risks involving changes in market prices, such as profit rate, equity prices, foreign exchange rates and credit spreads will affect the Group's income or the value of its holding of financial institutions.
At GHF all the balance sheet is non-trading portfolio as Group shell not assume trading positions. It manages currency risk by monitoring exchange rates. Profit rate risk is managed principally through monitoring profit rate gaps and having pre-approved limits o\for reprising brands, overall authority is vested to Asset Liability Committee (ALCO). RMD is responsible for the policies and review.
The InvestB bank separate it exposure to the market from trading and non-trading portfolios. The portfolios mainly include positions arising from market making and proprietary position taking, together with financial assets and liabilities that are managed on a fair value basis. The principal risk to which non-trading portfolios are exposed is the risk of loss from fluctuations in the future cash flows or fair values of financial instruments because of changes in market interest rates. Interest rate risk is managed principally through monitoring interest rate gaps by having pre-approved limits for reprising bands. The ALCO is the monitoring body for compliance with these limits.
DIB pays remarkable consideration to market risks, it uses appropriate model as per market standard to practice for the evaluating its position to market risk. Its comprises if the following;
- Limits to ensure risk takers do not exceed aggregate risk
- Independent market to market valuation and reconciliation position
CEO of the group ensures that market risk management process is always properly in placed and functioning.Off-sheet balance sheet risks management
The GFH avoid recognizing any income generated from non-Islamic sources, so all non-Islamic income is credited to a charity to a charity amount where the Bank uses these funds for charitable means. Also the Zakah on undistributed profits is communicated to the customer on a separate report. The off-sheet items are restricted investment accounts and capital commitments. The InvestB bank off-balance sheet financial instruments are; letters of credit, letters of guarantee, and foreign and forward commitments. For the reason perfect secrecy is provided to meet its guidelines.
The DIB's off sheet items included letters of guarantee, letters of credit and acceptances valued over 7,374,328 to be 4,041,099 in 5 years and 914,570 in more the 5 years. The DIB's total off sheet capital base was 6,617,777 in 2007 fiscal year and it got 12% increase in 2008.Extent of total value at risk
The group has the exposure to the following risks; Credit risk, Market risk, Liquidity risk, and operational risk. The total risk weighted exposure for GFH for 2008 was 2,956,061. InvestB banks total risk weighted assets were 6,707,273 in 2007. For DIB's group total risk weighted assets were 42, 501,714 and 51,808,030 in 2007 and 2008 respectively. As per UAE Central Bank's guidelines that it follows that Tier-1 capital should not be less than 6% of the total risk weighted assets.Operational risks control and management
The GFH bank definition incorporates both legal and Sharia'a compliance risks which is operational risk facing Islamic banks which can lead to loss of reputation, non-recognition of income and loss or revenue. Operational risks are attached to the management of usual and that involve changes such as introducing new product, project or program activities. Here the capital requirement for the operational risk is 79,960 which is 12% of capital change.
The InverB Bank's objective is to manage operational risk so as to balance the avoidance of financial losses and damage to the Bank's reputation with overall cost effectiveness and to avoid control procedures that restrict initiative and creativity. The primary responsibility for the development and implementation of control to address operational risk is assigned to senior management within each business unit. Audit reports/findings are discussed with the management of the branches/business units to which they relate. Complete audit reports together with summaries are submitted to the Board of Directors and senior management.
The key elements of DIB Group include are process mapping, setting up loss data base, setting up of KRIs, risk analysis and reporting. Each new product is subjected to risk review and signoff process. Business support units are responsible for operation risk in their respective areas by working within bank risk management framework. The day to day management of operations risk is through the maintenance of comprehensive system of internal controls with the help of robust systems and procedure as well as for contingency planning.Liquidity risks control and management
Liquidity risks is defined as the risk that the firm will not have funds to meet its financial liabilities as they fall due. The GFH approach is that it always has sufficient liquidity to meet its liabilities when due under normal or stressed conditions without incurring unacceptable losses or risking damage to the Group's reputation. Treasury maintains a portfolio of short-term liquid assets. The liquidity requirement of businesses units are met through Treasury to cover short-term fluctuations and long term funding to cater for any liquidity requirements. The daily liquidity position is monitored and regular liquidity stress testing is conducted under a variety of both normal and severe market conditions. All liquidity policies and procedures are subjected to review and approval by ALCO. The three primary measure of liquidity are stock of liquid assets, surplus cash, and net funding requirements.
In InvestB, following liquidity crises risk management remains helm of prevention framework by attracting close attention of Board of Directors. The Bank maintains a portfolio of short term liquid assets, largely made up of Central Bank certificate of deposits ("CDs"), short-term liquid trading investments and inter-bank placements. All liquidity policies and procedures are subject to review and approval by ALCO. In 2007 bank total liabilities and equity were 8,377,490.
The DIB Groups maintains highly marketable and diverse assets which can be easily liquefied in even of unforeseen interruption of cash flow. In 2007 bank issued USD 750 millions sukuks. The primary tool for monitoring liquidity is the maturity mismatch analysis, which is monitored over successive time bands and across functional currencies. Guidelines are established for the cumulative negative cash flow over successive time bands.
It is managed by day to day funding, maintaining a portfolio of highly marketable assets, monitoring balance sheet, and managing portfolio of debt maturities.Maturity of A and L tracked and analysis
By assessing and analysis the above factor we establish the fact that the risk management frameworks at above three financial institutes are in evolving state, the respective firms are strong commitment and plans to whether of the current financial crises. The considered Groups have stand well in the odds of past crises and are adapting to moderns financial and IT practices to embrace the future uncertainty. However the UEA FIs are doing well by all performance measures. In our finding, we have found that from the Financial Group we consider for risk management practices the Dubai Islamic Bank performed great in standing against financial odds and risk while Gulf Investment House and Investment Bank were not behind in having mature risk management and avoidance framework and required resources.
In the prevailing financial crisis the installment of robust and dynamic risk management systems should be installed. This mechanism of finding a firm current position and present and future risk factors is critical to its survival and growth. The UEA FIs are doing well by all performance measures and Central Bank of UAE and Government has strong financial and regulatory policy to implement the good practices of finance and risk management.
- DIB (2007). Dubai Islamic Bank (Public Joint Stock Company) and Subsidiaries, CONSOLIDATED FINANCIAL STATEMENTS. http://www.alislami.ae/en/downloads/financial-report-2008-en.pdf [On-line].
- DIB (2008). DUBAI ISLAMIC BANK P.J.S.C., Report and consolidated financial statements. http://www.alislami.ae/en/downloads/financial-report-2008-en.pdf [On-line].
- GFH (2007). Gulf Finance House, Consolidated Financial Statements. http://www.gfh.com/media-files/2008/07/31/20080731_GFH-ENG-fin.pdf [On-line].
- GFH (2008). GULF FINANCE HOUSE BSC, Inversting Wisdom. http://www.gfh.com/media-files/2009/06/01/20090601_AR-2008-Figures.pdf [On-line].
- InvestB (2007). INVEST BANK P.S.C., Financial statements. http://www.adx.ae/English/News/Pages/2009085(E)%20-%20InvestB%20annual%202008%20FS_2-26-2009%207_57_00%20AM.pdf [On-line].
- InvestB (2008). INVEST BANK P.S.C., Financial statements. http://www.adx.ae/English/News/Pages/2008031(E)%20-%20INVESTB%20Annual%202007%20FS_01-27-08%2012_24_23%20PM.pdf [On-line].