November 2015

Korea Credit Guarantee Fund

(KODIT)

Measuring Soundness and KPI of KODIT

Evaluation of CGS

CONTENTS

III

Overview of KODIT I

Performance EvaluationIV

Roles and Objectives of CGSII

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Overview of KODITI

4

• Status: Not-for-profit special legal entity backed by the Gov’t

• Establishment : 1976

• Capital Fund : USD 5.2 billion

• Outstanding Guarantee : USD 44.0 billion (* New supply : 12.6 USD billion (’14))

• Number of guaranteed companies : 215,728

• Number of Employees : 2,241

• Business network : 1 Head office, 9 Regional HQs, 106 Branches

Overview

5

Main busi-ness

Corporate man-agement con-sulting

Credit infor-mation man-

agement

Credit in-surance

Infrastructure credit guarantee

Main Businesses

Guarantee-aligned Equity Investment

Credit guaran-tee

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Roles and Objectives of CGSII

SMEs Banks

CreditEvaluation

Guarantee (Reduce

Credit Risk)CGS

Hurdles of financing

7

Basic Structure of Credit Guarantee

Banks

• Necessity to improve competence of SMEs

• Budgetary constraint for direct loan

• Minimal intervention in the financial market

Governments focus on the development of SMEs & economic growth

CGS

Government – Designer & Supervisor

SMEs(Target)

Gov’t

8

Participants

Banks

Gov’t

• High risk attribute & volatile business performance

• Lack of collateral

• High interest burden

SMEs have limited access to formal finance due to …

CGS SMEs(Target)

SMEs - Borrowers

9

Participants

Gov’t • Lack of experience on SME loans

• Risk-adverse tendency & reliance on collateral

• Sensitivity to high cost of SME loans

Banks have a tendency to avoid loans for SMEs

CGS

SMEs(Target)

Banks - Lenders

Banks

10

Participants

• Ease access to formal finance

• Lower interest rate

• Provide fund for long-term investment

For SMEs

• Provide assured collateral

• Introduce new loan markets

• Improve capital adequacy ratio

For Banks

• Higher competitiveness of SMEs

• Job creation & supplement social safety-net

• Financial market progress

• Provide counter-cyclical macro economic tools

For Gov’t

11

Objectives of CGS

Evaluation of CGSIII

Legal Support

Supervision

1. Legal support & Supervision1. Legal support & Supervision 2. Financial stability2. Financial stability

Source of fund

Guarantee fee

Fund InvestmentFour

Major Criteria

Criteria for Evaluation of Soundness

Credit risk management

Operational risk (audit)

4. Risk Management4. Risk Management3. Operational mechanism3. Operational mechanism

Guarantee procedure

Eligibility & ceiling & coverage

Other supporting systems

13

1. Legal Support & Supervision

14

• Korea Credit Guarantee Fund Act

• Improve financial accessibility for enterprises• Credit guarantee, investment, collection, etc.

• Contribution from government, bank, enterprises, etc.

Legal basis

Clear objective & mandate

Source of fund

• Government can supplement capital deficiencyCapital

Supplementation

15

Legal Support

• Relief of responsibility for non-serious mistake for employees

• Access to credit information from public organizations Other clauses

16

Supervision

The Board of Policy

The Board of Directors

KODIT

Budget Planning Operation Supervision Capital Contribution

Board of Audit and Inspectionof Korea

2. Financial Stability

17

18

Sources of Fund

Government(irregular)

Banks (regular)

Others (irregular)

Subject to yearly budget of the government

Mandatory donation in proportion to outstanding corporate loans (APR 0.225%)

Occasional contributions from banks or large enterprises

45%, USD

10 bil-lion

55%, USD

11 bil-lion

5%

Government Banks Others

• Contributions

• Cumulative contributions ( ~ 2014)

19

Guarantee Fee

• Fee rate is risk proportionate and follows market principles, but still has subsidy element

- Basis rate is differentiated by credit rating of each firm : APR 0.6~3.0%

(Adjustment) added or subtracted by policy purposes

SMEs have to pay the fee for the financial benefit from CG

Guarantee fee is a major source of fund in provision for claim payment

• Rationale for fee

• Fee rate

　 2012 2013 2014

Total Cash inflow (A) 17.4 17.0 17.5

Guarantee fee (B) 5.5 5.8 6.1

Proportion (B/A) 31.4% 34.2% 34.9%

(Average fee rate) 1.21% 1.24% 1.27%

(Unit : billion USD)

20

Fund Reinvestment

　 2012 2013 2014

Total Cash inflow (A) 17.4 17.0 17.5

Investment income(B) 3.1 1.9 1.4

Proportion (B/A) 17.6% 11.2% 7.8%

Rate of return 4.60% 2.93% 4.49%

Maximizing rate of return while properly managing liquidity risk

- High rate of return < Safe investment & liquidity

• Reinvestment Policy

• Strict liquidity requirement : Cash-outflow = capital fund x 42.6%

• Limited scope of investment asset (KCGF Act)

- Bank deposit (CD, RP), treasury bond, municipal bond, corporate bond (AA- or higher)

• Characteristics of KODIT Reinvestment

3. Operational Mechanism

21

22

Guarantee Procedure

Apply&

Interview

• SME’s application

• Eligibility check-up by

interview with owner

Credit Analysis &

On-site Visit

Evaluation&

Approval

Issuance of Guar-antee Letter

Credit Guarantee Procedure

• Document submitted

& reviewed

• Analyst’s on-site visit

• Credit rating &

Evaluation

• Guarantee approval

• Contract & Paying fee

• Issue of guarantee

• Individual approach (case by case)

23

Claim Payment and Collection

③

Subrogation Payment

②

Claim

Banks

⑤Repayment

④Debt C

ollectio

n

SMEs

KODIT

① Default

▪ Apparent predictable criteria and speedy payment procedure

- Boost the popularity of guarantee products from banks

• Subrogation Payment

▪ Through in-house collection prevent moral hazard of SMEs and boost capital reserve

• Collection

▪ All for-profit entities are eligible with some exceptions ▪ Adopts the “negative list system”

Eligibility & Ceiling & Coverage Ratio

Eligibility

24

▪ General ceiling : USD 2.7 million * Special ceiling : USD 6.3 million ▪ Firm specific ceiling (working capital only) - (sales) within 1/2 ~ 1/6 of annual sales amount - (equity) within 3 times equity capital

Ceiling amount AVG : USD 180,000

▪ Coverage ratios are differentiated by ① Credit rating and ② Period of guarantee usage (policy purpose)▪ Coverage ratio : 50% ~ 85% * Enterprises with low credit ratings get higher coverage

Coverage ratio AVG : 87%

4. Risk Management

25

26

Risk Management Tools

DefinitionType

Loss arising from borrower’s default

Financial loss from fluctuations in market prices

Loss from unstable or failed process, people, systems or external events

Credit Risk

Market Risk

Operational Risk

Tools

Internal rating system

Investment policy

Internal control and auditing

27

Credit Risk Management

Personal level

• Assess “soundness of guarantee” for ev-ery employee

• Objective approval decision with credit rating system

Branch level

• Distribute target of rate of risk taking

Company level

• Scenario manage-ment

according to total risk taking rate and credit VaR

• Systematic credit risk management

28

Quantitative Model

Scores from Financial Factors

Scores from Quantitative Factors

Scores from Qualitative Factors

CreditInvestigation

Owner’s CB rating

Combination of Model(Combined Score)

Pre-Rating

Filtering

CCRS Rating (Final)

Financial Model Qualitative Model

Rating Median PD(%)

KR1KR2KR3

•••

KR15

0.100.300.60

•••

30.0

Credit Risk Management

• Credit rating system (for individual approach)

29

Internal auditors (No. of staffs) : 24 (1.1% of total employees)

Major roles : Monitoring working procedure and operational risk management

Policy PlanningStage

Post Man-agement

Guarantee Evaluation

Policy monitor-ing and auditing

Cyber audit &Early warning

system

Overall audit in-spectionAuditing

WorkingProcess

Transparent working process & minimized opera-tional risk

Operational Risk Management

• Strong Internal Audit Unit

• Auditing by Working Process

Performance EvaluationIV

31

Evaluation Criteria

Financial Sustainability

Outreach

Additionality

Balance&

Trade-off

• Capital adequacy ratio, macro-economic roles, etc.

The degree of guarantee penetration measured by total amount or number of customers

Definition

(Outstanding guarantees / Outstanding SME loans *100%) : Outstanding guarantee: 40 billion, Outstanding loans to SMEs: 474 billion → 8.4%

(Guaranteed customers / Total SMEs *100%) : Guaranteed Companies: 216 thousand, Total SMEs: 3,419 thousand → 6.3 %

(Outstanding guarantees / GDP * 100%) : Outstanding guarantee: 40 billion, Nominal GDP: 1,410 billion → 2.9%

Measurement

Outreach

32

2008 2009 2010 2011 2012 2013 2014 billion USD

5 billion USD

10 billion USD

15 billion USD

20 billion USD

25 billion USD

30 billion USD

35 billion USD

40 billion USD

45 billion USD

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

28.8

38.5 39.1 38.6 39.3 40.0 39.8

7.5%

9.5% 9.8% 9.3% 9.4% 9.0% 8.4%

Outstanding Guarantees

(Outstanding guarantees / Outstanding SME loans *100%)

2008 2009 2010 2011 2012 2013 2014 billion USD

5 billion USD

10 billion USD

15 billion USD

20 billion USD

25 billion USD

30 billion USD

35 billion USD

40 billion USD

45 billion USD

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

28.8

38.5 39.1 38.6 39.3 40.0 39.8

2.9% 3.7% 3.4% 3.2% 3.1% 3.1% 2.9%

Outstanding Guarantees Ratio to GDP

(Outstanding guarantees / GDP *100%)

Outreach

33

• Calculation : ( Total loan payable – ① Tangible assets that can be used as collateral② ) ÷ Total loan payable①

• Outcome : 63.2% of additional credit was created by CG (10 yr average)

• Calculation : ( Total loan payable – ① Tangible assets that can be used as collateral② ) ÷ Total loan payable①

• Outcome : 63.2% of additional credit was created by CG (10 yr average)

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Average

62.8%

60.4% 60.0%

64.0%62.2% 62.2%

63.4%

66.1% 66.0%

63.6% 63.2%

Additional credit or financial benefit created by using credit guarantee

- A key rationale for CGS but no uniform method for measurement

Definition

Additional Credit by CG of KODIT

Financial Additionality

34

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Average

5.1%p 4.6%p

3.8%p 3.4%p

2.9%p 2.4%p 2.6%p 2.4%p 2.2%p 2.2%p

3.1%p

SMEs can enjoy lower interest rate compared with the rate charged by market principles

Lower interest rate by CG of Korea

Financial Additionality (2)

35

• Calculation : Interest rate of credit loan – ( Interest rate of guaranteed loan + Guarantee fee rate)① ② ③

• Outcome : Average interest rate benefit was 3.1%p (10 yr average)

• Calculation : Interest rate of credit loan – ( Interest rate of guaranteed loan + Guarantee fee rate)① ② ③

• Outcome : Average interest rate benefit was 3.1%p (10 yr average)

36

Economic Additionality

• USD 1 million of new CG create 5.4 of new job

• 1% increase of CG generate - corporate tax : 0.40% increase - value added tax : 0.32% increase - income tax : 0.13% increase

Job creation

Tax increase

Economic impact or welfare generated by CG (indirect effect)

① increase in sales or profit, ② job creation, ③ increase in tax payment, etc. * Hard to measure because research should be based on counterfactual reasoning

Definition

• New CG created extra value-added of USD 2.4 billion (2013) Value added

Examples of economic additionality of CG in Korea

• In general, guarantee user groups have shown better performance than non-user groups

Performance improvement

The degree of long-term financial self-sustainability (without government assistance) - Balance between cash inflow and outflow

* Inflow : bank contribution, guarantee fee, reinvestment income ** Outflow : net-claim payment, administrative cost

Definition

2005 2006 2007 2008 2009 2010 2011 2012 2013

51.0%

90.2% 114.6% 111.6%

136.0% 118.1% 119.8%

101.3% 96.6%

Decrease in rein-

vestment income

Financial Sustainability

• Calculation : Cash inflow ÷ Cash outflow

* If the outcome is equal or bigger than 100%, KODIT is financially self-sustainable

• Calculation : Cash inflow ÷ Cash outflow

* If the outcome is equal or bigger than 100%, KODIT is financially self-sustainable

Financial sustainability of KODIT

37

38

Financial Sustainability (2)

(Unit : billion USD) (Unit :

times)

2010 2011 2012 2013 20140.0

5.0

10.0

15.0

20.0

25.0

30.0

35.0

40.0

45.0

50.0

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

18.0

20.0

43.0 41.4 41.3

43.1 44.0

7.3 6.9 7.2 8.0 8.5

Outstanding Guarantees Capital Fund

Leverage Ratio (O/C)

(1 USD = 1,100 KRW)

5.2

• Leverage ratio (Multiples)

39

Financial Sustainability (3)

• Outcome of credit risk management (consistent de-fault rate)

CG provide capital relief benefit for banks under new Basel Accords

* Conditions of guarantee to fulfill Basel requirement

① irrevocable payment, ② unconditional payment, ③ explicit & documented obligation

** BIS Capital Adequacy Ratio = Equity/ Risk weighted assets * 100%

Definition

BIS Capital Adequacy Ratio

CAR with CG (a) CAR w/o CG (b) Effect (a-b)

14.10% 13.81% 0.29%p

Improvement of Capital Adequacy Ratio by CG of KODIT (2013)

Banks can supply additional credit in the market w/o input of capital

40

41

'83 '84 '85 '86 '87 '88 '89 '90 '91 '92 '93 '94 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10 '11 '12 '13

-5%

0%

5%

10%

15%

20%

25%

-20%

0%

20%

40%

60%

80%

100%Asian Financial Crisis

Burst of IT Bubble &

Credit Crunch

Global Finan-cial Crisis

GDP Growth Rate

Credit GuaranteeGrowth Rate

Source: Bank of Korea, KODIT

Macroeconomic Policy

• Counter-cyclical tool

42

Closing remarks

• Each country has to develop CGS along with its economic development

stage. In addition, it should also consider its own social, cultural and le-

gal circumstances.

• There is no one-size-fits-all credit guarantee scheme. So do evaluation cri-

teria.

• However, there are common and core criteria. Balance and trade-off

among outreach, additionality and financial sustainability.

• Nowadays, CGS of Korea has gotten into a matured stage and faced its

own specific challenges to overcome. There are still many misunderstand-

ings.

• Effort for in-depth performance evaluation and close public relation is crit-

ical.