Integrated Report 2020

INTEGRATED REPORT 2020 CIM FINANCIAL SERVICES LTD Explanatory Notes 30 SEPTEMBER 2020 4. FINANCIAL RISK MANAGEMENT (CONT’D) 4.1 Financial risk factors (Cont’d) (d) Credit risk (Cont’d) Impairment assessment (Cont’d) The calculation of the Expected Credit Losses (Cont’d) The period over which cash flows are determined is generally limited to the maximum contractual period for which the Group is exposed to credit risk, with the exception of credit cards – the maximum period for which the credit losses are determined is the contractual life of a financial instrument unless the Group has the legal right to call it earlier. These expected cash flows are discounted using the effective interest rate on the financial instruments. ECL for financial assets classified under stage 3 is measured at the individual obligor level except for individually insignificant facilities with similar risk characteristics which are grouped together and the ECL is determined based on history of losses. Probability of Default   The probability of default (PD) refers to the likelihood that a borrower will default over a particular time horizon. The PD of an obligor is a fundamental risk parameter in credit risk analysis and depends on obligor specific characteristics as well as on macroeconomic risk factors. The Group has adopted the IFRS 9 macroeconomic sensitive model for PD computation, which is based on following set of assumptions: There are two levels of PD relevant for ECL calculation: 12-month PD – This represents the estimated probability of default occurring within the next 12 months from the reporting date Lifetime PDs – This represents the estimated probability of a default occurring over the remaining life of the financial instrument and may be further broken down into marginal probabilities for smaller time periods within the remaining life. The PD models were derived using logistic regression. As part of the modelling phase, the variables having the most significant predictive default power were identified using the information value statistics. Variables were shortlisted based on their significance in predictive default and possible combinations were assessed using multifactor analysis to achieve the best-fit model. The performance of the final models was assessed to test the fit of the estimated PD curves against the historical default rate. Loss Given Default By definition, loss given default refers to the magnitude of the likely loss on a given facility in the event of default. It takes into account the loss of principal, interest foregone and workout expenses. CIM has derived estimates of LGD for Stage 1 and Stage 2 exposures using the Cured LGD methodology for its credit facilities as adequate historical information was available. The LGD methodology takes into consideration recoveries through insurance covers and value of collaterals. The models were derived using logistic regression and yielded to statistically significant estimates. Where historical data was insufficient for modelling, Basel estimates of loss given default for unsecured exposures were applied. Exposure at Default The exposure at default (EAD) refers to the gross carrying amount of the financial instruments in the event of obligor default. For Stage 1 exposures, the EAD is derived based on possible default events within 12 months. For Stage 2 exposures, the exposure at default is considered for events over the lifetime of the instruments. The EAD framework adopted by the Group considers two separate methods dependent on the underlying financial asset; the current exposure method for deposit with banks, leases, hire purchase and other credit agreements, and loan and advances except for revolving facilities such as factoring debtors and off-balance sheet items where the credit conversion factor approach is used. Under the current exposure method, the expected outstanding exposure is derived from the expected future cash flows as the best estimate of EAD. The credit conversion factor method takes into account the sum of the actual outstanding exposure and expected drawdown until default as the best estimate of EAD. Assumption Description Default observation An obligator is assumed to enter default state in any month wherein it crosses 90 days past due. Any observation following such default has been excluded. Macro-sensitive PD PD is assumed to be sensitive to changes in macroeconomic conditions. PD term structure The PD term structure is computed for a period of next 5 years and considered constant above this horizon. The basis for the assumption is validated by the convergence of macroeconomic forecasts post the 5 year period. 102