BPCE - 2019 RISK REPORT Pillar III

CREDIT RISKS

CREDIT RISK MANAGEMENT

In order to assess a significant increase in credit risk, the Group implemented a 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 (probability of default measured as a cycle average); for the large corporate, bank and specialized financing loan • books, it is based on the change in rating since initial recognition; these quantitative criteria are accompanied by 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 portfolio on a Watch List; exposures rated by the large corporates, banks and specialized • financing software tool are also downgraded to Stage 2 depending on the sector rating and the level of country risk. Exposures for which there is objective evidence of impairment loss due to an event representing a counterparty risk and occuring after initial recognition will be considered as impaired and 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 similar to their treatment under IAS 39. Expected credit losses on Stage 1 or Stage 2 financial instruments are measured as the product of several inputs: 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 rate and the level of prepayment expected on the contract; loss given default (LGD); • probabilities of default (PD), for the coming year in the case of • Stage 1 financial instruments and until the contract’s maturity in the case of Stage 2 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 specifics of IFRS 9.

IFRS 9 inputs: aim to provide an accurate estimate of expected credit losses • for accounting provision purposes, whereas prudential inputs are more cautious for regulatory framework purposes. Several of the safety buffers applied to prudential inputs are therefore restated; shall allow expected credit losses to be estimated until the • contract’s maturity, whereas prudential inputs are defined to estimate 12-month expected losses. 12-month inputs are thus projected over long periods; shall be forward-looking and take into account the expected • economic environment over the projection period, whereas prudential inputs correspond to through-the-cycle estimates (for PD) or downturn estimates (for LGD and the flows expected over the lifetime of the financial instrument). 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 economic scenarios over a three-year period. 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 economic scenario. Projections of inputs for periods longer than three years are based on the mean reversion principle. The models used to distort the PD and LGD inputs are based on those developed for the stress test system for consistency reasons. The economic scenarios are associated with probabilities of occurrence, making it possible to calculate the average probable loss, which is used as the IFRS 9 impairment amount. These scenarios are defined using the same organization and governance as those defined for the budget process, requiring an annual review based on proposals from the Economic Research department. For consistency purposes, the baseline scenario serves as the budget scenario. Two variants – an optimistic view and a pessimistic view – are also developed around this scenario. The probability of occurrence of each scenario is reviewed on a quarterly basis by the Group Watchlist and Provisions Committee. The inputs thus defined are used to measure expected credit losses for all rated exposures, whether they were subject to the IRB or the standardized approach for the calculation of risk-weighted assets. For unrated exposures (insignificant for Groupe BPCE), prudent valuation rules are applied by default. The IFRS 9 input validation process is fully aligned with the Group’s existing model validation process. Inputs are reviewed by an independent unit responsible for internal model validation, the unit’s conclusions are then examined by the Group Models Committee, and subsequent recommendations followed up by the validation unit.

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Forbearance, performing and non-performing exposures

Forbearance results from the combination of a concession and financial hardships, and may involve performing or non-performing loans. The decision to downgrade a loan from the “performing forborne exposure” to the “non-performing forborne exposure” category is subject to a different set of rules than the rules for default (new concession or payment more than 30 days past due) and, like the decision to move a loan out of the “forborne” category, is subject to probationary periods.

Forced restructuring, overindebtedness proceedings, or any kind of default as defined by the Group standard, which involves a forbearance measure as previously defined, results in classification as a non-performing forborne exposure. Disclosures on “forbearance, performing and non-performing exposures” are being added to those already provided on default and impairment. Probationary periods for customers no longer in forbearance are included in the new default project.

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RISK REPORT PILLAR III 2019 | GROUPE BPCE