the new alll - a primer for implementing cecl
TRANSCRIPT
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The New ALLL - A Primer for Implementing CECL
September 20, 2016
P R E S E N T E D B Y
Aaron LenhartDirector of ConsultingSageworks
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Disclaimer.
This presentation may include statements that constitute “forward-looking statements” relative to publicly available industry data. Forward-looking statements often contain words such as “believe,” “expect,” “plans,” “project,” “target,” “anticipate,” “will,” “should,” “see,” “guidance,” “confident” and similar terms. There can be no assurance that any of the future events discussed will occur as anticipated, if at all, or that actual results on the industry will be as expected. Sageworks is not responsible for the accuracy or validity of this publicly available industry data, or the outcome of the use of this data relative to business or investment decisions made by the recipients of this data. Sageworks disclaims all representations and warranties, express or implied. Risks and uncertainties include risks related to the effect of economic conditions and financial market conditions; fluctuation in commodity prices, interest rates and foreign currency exchange rates. No Sageworks employee is authorized to make recommendations or give advice as to any course of action that should be made as an outcome of this data. The forward-looking statements and data speak only as of the date of this presentation and we undertake no obligation to update or revise this information as of a later date.
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Agenda.
• What is CECL?
• Recent Updates & Timelines
• Forming An Implementation Committee
• Data Requirements
• Impact of a more Robust Calculation
• How to Prepare
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What is CECL?
• FASB released proposal December 2012• Final CECL standard issued by the FASB on June 16, 2016
• CECL = Current expected credit loss
• What’s changed from Incurred Loss Model?» Forward-looking requirements» “Probable loss” threshold removed» More need for accessible, loan-level data» Longer loss horizon» Makes ALLL more institution-wide calculation
• Purpose: Quicker recognition of losses. Changes in ALLL reserve balances will reflect changes in credit quality and flow through earnings (“Fed Perspectives,” 2015)
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Recent Updates.Final standard issued on June 16, 2016
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Release & Recent Activity.• Feb. 4 FASB Industry Roundtable
» Participants from FASB, NCUA, ABA, ICBA, SEC, OCC, Fed, FDIC + more than a dozen financial institutions
» Participants were critical of the “life of loan” concept and voiced a need for more definitions and better examples
• April 1st Transition Resource Group (TRG) Meeting» Proposal’s revised language provides additional flexibility, stating that
there is no one methodology that entities must use• April 27th FASB Meeting
» Internal and external info available without undue cost and effort» Day 1 flexibility» Language is broader and less specific/prescriptive» Vintage disclosures» Effective dates moved back one year
• June 16: FASB issues final CECL standard• June 17: Four federal agencies issue joint statement on CECL implementation
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CECL Transition Resource Group (TRG).
• Purpose» To solicit, analyze, and discuss stakeholder issues arising from
implementation of the new guidance» To inform the FASB about those implementation issues, which will
help the Board determine what, if any, action will be needed to address those issues
» To provide a forum for stakeholders to learn about the new guidance from others involved with implementation
• Members» TRG Chair: Larry Smith, FASB» TRG members include financial statement preparers (including
community banks and credit unions), auditors, users, and financial services regulators.
• The most recent meeting was held on April 1, 2016 and future meetings have not yet been scheduled.
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CECL Implementation Timelines.
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Implementation Planning.Forming an implementation committee
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Scope of CECL Implementation.
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Operational CreditLegal/
Compliance
•Credit Business Lines
•Mergers & Acquisitions
•Counter-parties
•IT Systems•Vendor Management
•Regulatory Reporting
•Financial Reporting
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Forming An Implementation Committee.
• Look at how the allowance calculation flows through your institution and how many areas touch it
• Strive for senior level representation across all departments
• CECL will require significant collaboration across functional areas
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CECL Committee
CFO
Risk Officer
Audit
IT
Workout
Head of Credit
/Lending
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Factors to Consider.
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Methodology Changes
Data Requirements
Capital Adjustment
Communication
Projected Impact
Historical loss to migration, PD/LGD, vintage analysis
“Reasonable and supportable forecasts”
Life of loan expected loss versus one year incurred loss
Model validation
Internal controls
External provider
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Factors to Consider.
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Methodology Changes
Data Requirements
Capital Adjustment
Communication
Projected Impact
Building and maintaining a data warehouse
Assessing availability and quality of historical data
Determining key data needed for calculation
Data validation process
Report building process
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Factors to Consider.
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Methodology Changes
Data Requirements
Capital Adjustment
Communication
Projected Impact
Need to raise additional capital?
Member communication
Regulatory communication
Timing consideration
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Factors to Consider.
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Methodology Changes
Data Requirements
Capital Adjustment
Communication
Projected Impact
Socialization of CECL with board and senior management
Periodic meetings
Documents read into the minutes
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Factors to Consider.
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Methodology Changes
Data Requirements
Capital Adjustment
Communication
Projected Impact
Earnings projection due to changes in provision
Peer comparisons will change
Asset and liability management
Stress testing
Loan pricing
Underwriting guidelines
Segment lending limits
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Implementation Planning.Strengthening risk rating procedures
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CECL Data Requirements.
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Data Requirements.
Now
Historical Loss Rates
• Charge-offs• Recoveries• Aggregate pool
data• Beginning balance
of pool• Ending balance of
pool
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Future
Expected Loss Rates
• Charge-offs• Recoveries• Aggregate pool
data• Beginning
balance of pool• Ending balance
of pool
• Risk rating by individual loan
• Loan duration• Individual loan
balance• Individual loan
charge-offs and recoveries (partial and full)
• Individual loan segmentation
New
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Ways to Capture Loan-Level Data.
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Data Points by Methodology.
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» Historical Loss» Migration Analysis» Vintage Analysis
• Individual loan charge-offs• Individual loan recoveries• Individual loan balances• Individual loan pool segmentation• Individual loan duration• Individual loan risk classification• Migration of loans between classification• Individual loan origination dates• Individual loan origination amounts
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Data Adequacy Checklist.
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The data is labeled appropriately (headers consistently applied and are understandable)
Data does not contain duplicates (fields, rows or entities) There are no inconsistencies in values (e.g., truncated by 000’s vs. not truncated Data is stored in the right format (e.g., numbers stored as numbers, zip codes
stored as text) The file extracted from the core system is stored as the right file type File creation is automated; not requiring manual file creation Data is reliable and standardized throughout the institution, across all
departments Data fields are standardized and governed to ensure consistency going forward Data storage does not have an archiving time limit (e.g., 13 months) Data is accessible (usable format like exportable Excel files, integrates with other
solutions) Archiving function captures data points required to perform range of robust
methodologies
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Consider the Impact of Moving to a More Robust Calculation.
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Measurement of ECLs.
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Unadjusted historical
lifetime loss experience
Adjustments for past
events and current
conditions
Adjustments for
reasonable and
supportable forecasts
Estimate of expected
credit losses
As outlined by the Federal Reserve in their October webinar on CECL:
Source: “Loss Data, Data Analysis, and the Current Expected Credit Loss (CECL) Model”, Fed Perspectives Webinar, 10/30/15
• Choice of methods include:• Loss-rate methods• PD/LGD• Migration analysis• Vintage analysis
• Any reasonable approach may be used – guidance is not prescriptive
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May I Adapt My Current Model?
• Not technically prohibited
• ‘It typically would be inappropriate’ for long-term assets according to the exposure draft
• Ease seems to be the only advantage
• May create unwanted results for long-term assets
• May be appropriate for short-term loans
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Example Implementation TimelineSEC-Filer
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2016: Create Roadmap.
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2016 2017 2018 2019
Create roadmap
Scenarios & modeling
Final model & validation
Refine & monitor
CECL
Key Action Items• Build committee• Set project plan• Review final CECL language• Inform board & management of committee/ALLL changes• Examine data/current processes
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2017: Scenarios & Modeling.
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2016 2017 2018 2019
Createroadmap
Scenarios & modeling
Final model & validation
Refine & monitor
CECL
Key Action Items• CECL scenario modeling• Test methodologies• Develop data validation process• Identify any capital issues• Update board/management
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2018: Final Model & Validation.
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2016 2017 2018 2019
Createroadmap
Scenarios & modeling
Final model & validation
Refine & monitor
CECL
Key Action Items• Identify final CECL model• Incorporate model & reserve data into current portfolio
management• Capital adjustment• Update board/management
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2019: Implement Final Model.
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2016 2017 2018 2019
Createroadmap
Scenarios & modeling
Final model & validation
Refine & monitor
CECL
Key Action Items• Fine-tune new process• Monitor ALLL levels• Fine-tune risk ratings• Fine-tune loan pricing• Update board/management
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Key Takeaways.
• Minimize risk in loans you’re underwriting today
• Avoid the temptation of simply adapting your current methodology
• Reduce dependency on spreadsheets
• Start cross-department conversation now, including credit and finance
• Review/strengthen risk rating procedures
• Capture, archive and incorporate loan-level detail into the ALLL
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Contact Information & Questions.
Aaron LenhartSenior Risk Management CosultantAaron.lenhart@sageworks.com866.603.7029www.sageworksanalyst.com
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