BPCE - 2018 Risk report / Pillar III

CREDIT RISK Credit risk management

It also defines concepts (credit risk measurement, accounting principles on the impairmentof customer receivablesunder IFRS and French GAAP) and data to include in a non-performing loan or disputed loan assessment, as well as essential items to include in a provisioning record. The methodologysectionfor determiningindividualimpairmentbased on expert opinion defines impairment approaches: going concern (the company can continue operating, and is ● generatingrepaymentflows that generallyrequire the existingdebt to be restructured); gone concern (the company has ceased operations and the ● repayment of the loansdependson the valueof the collateralheld); combined approach (the company will substantially reduce its ● activity,and in order to recoverits money the bank must combinea collection strategy based on operating cash flows with a strategy that involvescalling incollateral). Finally, the policy defines other items that affect the calculation of collectionflows and covers the special circumstancesof loans to real estate professionals. The operational implementation of this methodology is being reviewed toensureit is being appliedby the institutions. Groupe BPCE applies the contagionprinciple, which holds that, given the ties between entities of a single group, contagion must be recognizedfor a companyundergoinghardshipsif those hardshipsare expected to result in another company struggling to meet its commitments.This principleis applied early in the process, when KYC data are collectedon groups of customercounterparties,through the ties binding thegroups together. Impairment under IFRS 9 Impairment for credit risk amounts to 12-month expected credit losses or lifetime expected credit losses, depending on the level of increase in credit risk since initial recognition (Stage 1 or Stage 2 exposure). A set of qualitative and quantitative criteria is used to assess the increase incredit risk. A significantincrease in credit risk is measuredon an individualbasis by taking into account all reasonable and supportable information and by comparingthe default risk on the financial instrumentat the reportingdate with the default risk on the financialinstrumentat the date of initial recognition.Any significantincrease in credit risk shall be recognized before the transaction ismpaired (Stage3). In order to assess a significant increase in credit risk, the Group implementeda process based on rules and criteria which apply to all Group entities: for the individual customer, professional customer and SME loan ● books, the quantitative criterion is based on the measurement of the change in the 12-month probability of default since initial recognition(probabilityof default measured asa cycle average); for the large corporate, bank and specializedfinancing loan books, ● it is based onthe change inrating since initial recognition; these quantitativecriteria are accompaniedby a set of qualitative ● criteria, including the existence of a payment more than 30 days past due, the classification of the contract as at-risk, the identification of forbearance exposure or the inclusion of the portfolioon a Watch List;

exposures rated by the large corporates, banks and specialized ● financing software tool are also downgradedto Stage 2 depending on the sector ratingand thelevel of countryrisk. Exposures for which there is objective evidence of impairment loss due to an event representinga counterpartyrisk and occurring after initial recognitionwill be consideredas impairedand will be classified as Stage 3. Identification criteria for impaired assets are similar to those under IAS 39 and are aligned with the default criterion. The accounting treatment of restructuring operations due to financial hardships is similarto their treatmentunder IAS39. Expected credit losses on Stage 1 or 2 financial instruments are measured asthe product of severalinputs: cash flows expected over the lifetime of the financial instrument, ● discounted at the valuation date - these flows are determined according to the characteristics of the contract, its effective interest rateand the levelof prepayment expected on the contract; loss given default (LGD); ● probabilities of default (PD), for the coming year in the case of ● Stage 1 financial instrumentsand through to maturity in the case of Stage2 financial instruments. The Group draws on existing concepts and mechanisms to define these inputs, and in particular on internal models developed to calculate regulatory capital requirements and on projection models used in the stress test system. Certain adjustments are made to comply with the specific provisions of IFRS 9. IFRS 9 inputs: aim to provide an accurate estimate of expected credit losses for ● accountingprovision purposes, whereas prudentialinputs are more cautious for regulatory framework purposes. Several of the safety buffers appliedto prudential inputsare therefore restated; shall allow lifetime expectedcredit losses to be estimated,whereas ● prudential inputs are defined to estimate 12-month expected losses. 12-month inputs are thus projected over long periods; shall be forward-lookingand reflect forecasts of future economic ● conditions over the estimated period, whereas prudential inputs consist of cycle-average estimates (for PD) or cycle-trough estimates (for LGD and EAD). Prudential PD and LGD inputs are therefore also adjusted to reflect forecasts of future economic conditions. Inputs are adjusted to economic conditions by defining three economicscenarios over a three-yearperiod. The variables defined in each of these scenarios allow for the distortion of the PD and LGD inputs and the calculation of an expected credit loss for each economicscenario.Projectionsof inputs for periods longer than three years are based on the mean reversion principle. For consistency purposes,the models used to distort PD and LGD inputs are based on those developed for the stress test system. The economic scenarios are associated with probabilitiesof occurrence, ultimately making it possible to calculate an average probable loss used as the IFRS 9 impairment amount.

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Risk Report Pillar III 2018