Standardised Credit Risk Management System?
16th July 2014 16:49 GMT

As an ex-naval officer who served with the Singaporean Navy, performing bridge watch keeping duties was part-and-parcel of our daily routine. The art of navigation is a skill which we, as navigating officers, must learn and hone until it becomes second nature to us. And trust me, sailing along the Straits of Singapore -- which is one of the busiest shipping lanes in the world, and where ships of all types and sizes are constantly crossing in all directions at various speeds -- your mind will stay in hyper-drive, taking in all the information and working out the best course of action to take, to make sure your ship does not collide with another vessel, while still performing your normal patrol duties.

Back in the navy, we were often asked "So is navigation an art? Or is it a science?" This question is perhaps similar to the many articles which we have seen recently discussing credit risk management in the bunker industry. As my navigating instructor used to say, ship navigation is definitely a science; it only becomes an art after you have mastered, and fully digested, the logic and rationale behind all the rules governing navigation, and have become so used to them that you apply them automatically.

Sportsmen would call this muscle memory. According to my instructor, as a good navigating officer, every navigation decision we make must be based on the rules and guidelines which are taught in the Admiralty Manual of Navigation, or the so-called BR45, used by navigators all around the world.

I agree with him, and think that the same concept should be applied to credit risk management. At Ocean Intelligence, we interact with credit managers and analysts from various oil and bunker companies – large trading houses, small physical suppliers, state-owned oil companies, oil majors, etc – on a daily basis, and it seems that pretty much everyone has their own set of guidelines for determining credit and managing credit risk; hardly surprising given that we all have our own different experiences and came from different backgrounds and cultures.

Some look at the company's financials such as paid-up capital, revenue and fixed assets, should these be available, while others base their decision on intangible parameters such as their relationship with the counterparty, and, of course, there are some who simply depend on third party credit reports.

Some companies hold credit committee meetings to discuss credit recommendations. But is more brains always better than one brain? More often than not, we know that an argument is usually won by the one with the loudest voice, or the one who is "perceived" to be the most experienced. However, what do they base their judgement on? Their experience? Experience based on what?

I guess most of us would agree that a soldier does not necessarily understand how his gun works. Load, aim and press the trigger, that is basically all he needs to know.

It would be hard to conclude which credit risk management method is more right, as different sets of parameters, both financials and non-financials, have their pros and cons. Can we really believe the financial statements that were reported for the last financial year? Is payment performance feedback more useful? This is probably why the idea of credit risk management has been likened to an art, where there is no absolute right or wrong.

In an artistic setting, you would often come to a judgement first, and then find a plausible explanation, to back up your argument. I think many credit managers may have fallen into the trap of having a certain bias for certain companies to then look for relevant supporting evidence to ask for higher credit limit for the company. The opposite can happen as well, and, in psychology, this is called cognitive bias.

On the other hand, a scientific subject is ruled purely by formulas and equations, where, if you add one to one, you can only get two, and there will be no argument about it. What we can do, perhaps, is agree upon a standardised a set of guidelines for the bunker credit industry, a system which all credit managers can use to manage their credit risk. This would reduce bias and ensure uniformity when assessing counterparties.

The use of a standardised set of credit risk management guidelines can also help prevent bunker companies from becoming overly reliant on their credit managers.

While these credit managers are no doubt knowledgeable and are key assets for their companies, one question invariable pops up: what happens when they leave?

With a proper and standardised credit risk management system in place, you would be able to put any credit-trained person onto the job without much disruption to the existing workflow in the organisation. The same can also be said for a credit manager joining a new firm with the same credit risk management system, as he or she will be able to integrate easily with their new team.

Standardising the credit risk management system can help facilitate the exchange of information between bunker companies as well, which would be useful in protecting them against dealing with errant shipowners and financially troubled ship operators.

Key information such as credit history, financials, ownership, legal lawsuits, etc, can be gathered and consolidated under a common third party agency, to be accessed and shared among credit managers. This is akin to mariners using the Vessel Traffic Information System (VTIS) to communicate with the port authorities and other mariners to obtain important navigation information such as navigation hazards, vessel traffic conditions, weather updates, etc, basically, establishing a two-way exchange of intelligence.

This system has worked for years, built upon a common understanding and trust between the mariners that the information which they provide would help one another and benefit the community as a whole.  However, in the bunker market, fear of losing profitable accounts to competitors still deter some from the idea of intelligence sharing.

The idea of alliance and co-operation, in one form or another, is definitely not new. Perhaps, the difficulty lies in the fact that companies are usually reserved when being asked to give out information for free. However, if a common understanding and trust can exist amongst mariners for generations, then why not among the credit managers in the bunker credit industry?

Lawrence Lau,
16th July 2014 16:49 GMT

Comments on this Blog
Julian Mcqueen
23rd July 2014
Interesting take on how you arrive at a credit decision. The intuition versus a more systematic approach to finding something out is a familiar line of debate. Most of us tend to favour one approach over the other. I wonder what most credit managers go for: intuitive or systematic?
John Phillips - GP Global APAC Pte. Ltd.
29th July 2014
I think the thing here is to avoid 'lowest common denominating' the function. Is it an art, a science? Yes it is certainly both. Especially in this modern finance driven world where it is important to be able to overlay quantitative measurements over qualitative research. The good credit manager will instinctively know whether the customer is good or bad, it is to what degree it is good or bad and that is where tools such as the ALP/OI Credit Model or other such modelling techniques can help.

If we attempt to create a quantitative model from the ground up to measure all aspects and give the perfect answer, then the problem will probably be, apart from anything else, a total lack of appreciation of one key factor which Lawrence sadly missed, and that is appetite. What is the vendors appetite for risk, one credit manager can look at a company and say no on very good grounds. However, a credit manager in another company would look at the same data and scream 'hell yes' snapping up the business. This is where art returns to the science of the credit manager.

So what am I suggesting? It goes, art, science, art? Well no, it's usually far more complicated than that, but let's not give all the secrets away.

Then there is the question of tools to mitigate loss and a very important factor, commerce. After all, we are all, credit managers included, in the ultimate business of making money.

There are some great arguments in here and some useful pointers, Lawrence clearly 'gets it', the problem is that this piece is led by a though that is over simplistic, namely, why can't all credit managers work to the same basics, thus creating redundancy cover of role, and moreover, the opportunity to create a common bank of data for all to consider and react to.

Sadly, as already highlighted, whilst we may mostly look at the same sort of data, how it is reproduced, interpreted and used varies depending on a whole range of factors as individual to the credit manager as to the number of vendors there are.

We are all different as Brian proclaimed!
John Phillips - GP Global APAC Pte. Ltd.
20th August 2014
I'm not!
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3rd September 2016
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3rd September 2016

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