APPENDIX

Followings are examples of problems that were pointed out by the FSA.

Some have already been corrected or are being corrected.

1. Adequacy of the bank's process on self-assessment and write-off/allowance
【Assessment】
  All banks were found to have properly established the process for self-assessment and write-off/allowance, and are expected to continue their effort toward further strengthening and solidification.
【Flow of operation 】
  In general, the evaluation process - from self-assessment to the write-off/allowance - is as follows: 1) branches carry out the primary self-assessment at the end of December; 2) the credit risk management department of the head office carries out the secondary self-assessment; and 3) the credit audit department audits the secondary self-assessment. Also, 4) the correction process is carried out in the likewise order from January to March; and 5) further amendments are added to the result to take account of changes occurred during April to June. For write-off/allowance, this aforementioned self-assessment is used as its base. Planning division in accounting department may also be involved in the process.

　
2. Adequacy of self-assessment standards
【Assessment】
  Banks' self-assessment standards were generally consistent with the FSA's "Asset-Quality Assessment" guidelines, although some minor problems were found in majority of the banks.
【Problematic Points】
(Examples of problems: one or a few banks came under examples.)
 
1) Existence of rule allowing the credit classification of affiliated companies to be based on the parent company's classification, without taking into account of their financial situation.
2) Existence of rule which allows deduction of expected cash-flow returns from classified credits of “Need Attention" debtors, without taking into account their financial situation.
3) Absence of rule to classify differential between prospective collectable amounts of the collaterals and their estimated market prices, for "Effectively Bankrupt" or "In Danger of Bankruptcy" debtors, as category 3.

　
3. Adequacy of write-off/allowance standards
【Assessment】
  Banks' standards of write-off/allowance were generally in line with the Japanese Institute of Certified Public Accountants' guidelines of the “Instructions for examination of internal control on the financial institutions' self-assessment of assets, and auditing of bad debt write-off/allowance", although some minor problems were found in majority of the banks.
【Problematic Points】
(examples of problems: one or a few banks came under examples.)
 
1) Application of separate rule for credits to affiliated non-banks which allows their exclusion from general write-off/allowance rule.
2) Absence of self-assessment rule to subject category 3 credits to "Effectively Bankrupt" debtors to a full write-off.
3) Calculation of historical loss rates by disregarding majority of data as "abnormal" cases.

　
4. Accuracy of self-assessment results
【Assessment】
  Errors in classification were found in all banks, particularly with regard to banks' affiliates and major debtors.
【Problematic points: a bank or a few banks came under examples. 】
  
1) Banks' affiliates were classified as "Normal", "Needs Attention", or "Other" debtors, without taking into account their financial situation.
2) Major debtors of the bank or affiliated companies of other banks were either not classified or classified as category 2, without talking into account their financial situation.
3) Self-assessment was based on inadequate credit rating systems.
4) The correction process after the primary self-assessment was inadequately carried out.

(billion yens)
　

　Classification

 Total (note1)credits
1 2 3 4

Assessment by the FSA (a)

 344,708.5 43,781.2 5,342.6 375.6 394,207.9
Self-assessment (b)(Note 2) 350,114.6 40,197.0 3,771.8 (Note 3)
124.5		 394,207.9

(a) － (b)

 -5,406.1 3,584.2 1,570.8 251.1 －
(a) － (b)/Credit － 0.9 0.4 0.1 -
Note 1: "Credit" refers to the collective term of the following: loans and bills discounted, securities loaned, foreign exchanges (those due from foreign banks, foreign bills bought or receivable), accrued interest, suspense payments, customers' liabilities for acceptances and guarantees.
2: "Self-assessment (b)" refers to corrected results of the self-assessment which banks have reported to the FSA in accordance with article 24, the banking law (the correction are put into because of errors).
3: Category 4 includes the classified credits in the trust accounts (118.0 billion yens).

　

● Accuracy of classification

(Difference between the ratios of classified credits to total credits based on the FSA assessment and the banks' self-assessment)

(Difference of the Ratios) (Number of banks)
less than 1.0 % 5 banks
1.0 ～ less than 2.0 % 7 banks
2.0 % and over 5 banks
5. Adequacy of write-off/allowance results
【Assessment】
  Additional amount of write-off/allowance was required for all banks, mainly due to the inaccuracy of banks' self-assessment, and also to faults in their write-off/allowance standards.

(billion yens, %)
Credits
(1)		 FSA assessed write-off / allowance amount
(2)		 Self - assessed write-off / allowance amount
(3)		 Additional amount of write-off / allowance required
(4)=(2)-(3)		 Insufficiency ratio
(4)/(1)
394,207.9 8,606.0 7,564.7 1,041.3 0.26
Note: ‘The FSA assessed write-off/allowance amount (2)' is calculated on the basis of banks' write-off/allowance standards.
　

● Adequacy of write-off/allowance

(Insufficiency ratio) (Number of banks)
less than 0.15% 7 banks
0.15 ～less than 0.35% 4 banks
0.35% and over 6 banks

　
6. Adequacy of disclosure
【Assessment】
  Non-performing loans were adequately disclosed following the previous　disclosure standard of non-performing loan, although some omission or oversight were found .
As from March 1998, banks also disclosed "risk-management loans "according to the new the disclosure standard set by the Zenginkyo. The "restructured loans", however, were found to have been disclosed in a unified manner, due to the difference in definitions of the term employed by banks.
【Problematic points】
(New disclosure standard)
Examples of disclosure standard of "restructured loans" used by banks:
 
1) The disclosure for spread lending in "restructured loans" was limited to those with interest spread smaller than 0%, or 0.125 %. (The disclosure standard for the spread lending set by banks ranged from 0.0% to 0.375%.)
2) The long and short term prime rate lending was not disclosed.

　
7. Accuracy of banks' reports on self-assessment results to the FSA (Report of credit self-assessment)
【Assessment】
  Reports from majority of the banks were found inaccurate.
【Problematic points】
 
(1) Inclusion of items irrelevant to credits, such as real estate.
(2) Miscalculations.
(3) Omission of some credits that otherwise should have been included in the total credits.

(billion yens)
　 1 2 3 4 Subtotal of(2-4)

Corrected report of self-assessment (1)

 350,114.6 40,197.0 3,771.8 124.5 44,093.3
Initial report of self-assessment(2) 380,459.7 40,501.3 3,779.0 120.4 44,400.7

(1) － (2)

 -30,345.1 -304.3 -7.2 4.1 -307.4
(Note 1:) Amount of credits after the write-off/allowance.
(Note 2:) On the collected data published on July 17, 1998, 120.4 billion yens in category IV's(2) was footnoted.

　

8. Needs for improvements and strengthening in external and internal auditing
【Assessment】
Since majority of the banks were found with insufficient write-off/allowance due to the errors in the standards of self-assessment and write-off/allowance, both internal and external audit need to be substantially improved and strengthened.

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