Banks asked to scrutinise loans to big borrowers

The UAE Central Bank is evaluating true value of banks' asset quality to know the exact nature and value of impairments, a move that is expected to introduce essential changes in the balance sheets of some banks operating in the country.

The Central Bank said in a notice to all banks that "world markets remain highly volatile as investors have been prone to over react. As a result, the market value of securities may be hard to assess".

The notice said the current crisis required financial institutions to build adequate provisions and reserves.

Due to the impact of the global financial crisis on the financial sector as well as the sharp collapse of global stock markets, the value of a significant part of the banks' assets deteriorated sharply.

This kind of examination of banks' asset quality is going on global scale and has led to the collapse of some international banks due to the sharp fall in the value of their assets.

The issue is under discussion in the International Monetary Fund as well as international independent auditors because it touches the core of the free and capital market rules, especially standards for assessing banks' assets. Though the Central Bank did not specify the standards of this examination or areas of focus, but analysts expect the revision will focus on ensuring the value of assets in banks' accounts should be the mark to market value, regardless of the sharp deterioration in the market value of assets and share prices.

Recently, some banks have asked the Central Bank and Emirates Securities and Commodities Authority to assess their equity funds according to their book value, not market value. They also asked for the assessment of real estate funds according to the lease value over 10 years instead of the market value. This move was rejected by analysts, stressing that the asset value should be assessed according to free market rules.

"As long as we are committed to free market mechanisms, market prices are the real value even if there is severe deterioration. We cannot abandon capital market rules at the current moment because the market value declined. All institutions and companies should accept their loses and avoid window dressing practices to hide part of these loses," said Jamal Zarouq, a senior economist at the Arab Monetary Fund.

"The book value cannot be a reference because it was determined by the first shareholders before such companies offer their stocks in the markets, while the market value is the real value. Currently, this will affect the value of some assets, but the market value assessment is still the best way to introduce accurate value," he added.

Humam Al Shammaa, Financial Consultant at Al Fajr Securities, agreed that the market value should continue to be the reference for any assessment of assets. "Using the book value can help in supporting banks' balance sheets at the current stage because the market value of some assets declined below the book value. However, I believe in fixed standards to rule. We have this situation due to the financial crisis and what will be the situation after the crisis is over. I expect banks will ask again to change assessment rules to market value."

Al Shammaa stressed the importance to continue assessing real estate assets according to market value. "Lease value is very volatile in the UAE because of the movements of the expatriate community. Rents can fluctuate sharply in the country according to supply and demand rules on the short term. Also, assessing the lease value over ten years is unfair because some properties should be assessed over 15 years and others over five years, according to the quality of these properties."

The Central Bank's notice stressed financial institutions should build adequate provisions and reserves, asking banks to fill in and submit details of their borrowers or investments of Dh10 million or above within 20 working days or within one week prior to the submission of their audited financial statements.

According to bankers, the issue of provisioning varied among banks because they have recorded very high profits during the first three quarters in 2008, while suffered loses during the last quarter. Accordingly, the financial results of 2008 will not show the real situation in these banks. They expected that the Central Bank's move is aimed to ensure that those banks have enough reserves for the expected loss on the short-term especially in the loan book.

"There are a lot of rapid developments in the markets during the past few weeks which will have severe impact on the banking system. For example, some borrowers lost their jobs and their loans will turn to be non-performing loans very soon. Banks have information about those people and they should clarify these details in their balance sheets," said a banker on condition of anonymity.

He added that borrowers of Dh10m or above represented the majority of the loan book and the Central Bank was trying to ensure the quality of their financials and the value of security for such loans.

Excessive demand for provisioning is another issue, which created differences between banks on one hand and the Central Bank and independent auditors on the other hand. Some banks have already deducted expected loses from their balance sheets while the Central Bank and auditors are asking them to introduce provisions for these assets.

"For example, we financed a property of Dh1m and the value of this property declined to Dh900,000 and we stated in our balance sheet that the value is Dh900,000, which means that we already counted the lose. Then the Central Bank and auditors ask us to add more provisions for this property. This will be unfair and will add more pressures on banks," said a banker.

The Central Bank also ordered all banks not to publish their audited annual accounts or announce any data related to their results in 2008 to media until they got approval of these accounts, pending the examination.

Banks used to send their audited annual results to the Central Bank by fax or e-mail and publish these data immediately the next day, despite regulations of the Central Bank require its approval of the audited results before they are released to the public.

However, bankers see that the previous practice by banks was acceptable during normal circumstances. "The Central Bank is practicing its right to review and approve audited annual accounts before any bank can publish these results," said a banker who asked not to be named.

He said the global financial crisis and its severe impact on the financial sector and stock markets pushed the Central Bank to take strict measures concerning disclosure of banks' results, especially in areas such as provisioning and window dressing.

Wadhah Al Taha, a senior market analyst, said that the ultimate objectives of any actions should be the interest of investors to ease negative sentiment among them.

"There is a certain international criteria to classify the quality of assets. The examination of the Central Bank is critical because it will create a benchmark for comparison among different assessments from a reference body in the country.

"However, this action was delayed because banks listed in stock markets should disclose their results by February 15 and the notice is giving banks a short period to prepare their new documents," he said.

Al Taha expected that the examination by the Central Bank would benefit the markets on the long term because it would improve the quality of financial statements.

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