© 2015 Grant Thornton LLP | All rights reserved | U.S. member firm of Grant Thornton International Ltd
National Conference on Banks &
Savings InstitutionsCECL GovernanceJeff Honeycutt, Partner Grant Thornton LLP
Dorsey Baskin, Retired Partner
AIC
PA
© 2015 Grant Thornton LLP | All rights reserved | U.S. member firm of Grant Thornton International Ltd
Jeff Honeycutt
Partner
National Bank Audit Practice Leader
Charlotte
704.632.6812
Dorsey Baskin
Retired Partner
Dallas
214.240-5515
Meet your presentersCECL Governance
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Disclaimer
This Grant Thornton LLP presentation is not a comprehensive analysis of the subject matters
covered and may include proposed guidance that is subject to change before it is issued in final
form. All relevant facts and circumstances, including the pertinent authoritative literature, need
to be considered to arrive at conclusions that comply with matters addressed in this
presentation. The views and interpretations expressed in the presentation are those of the
presenters and the presentation is not intended to provide accounting or other advice or
guidance with respect to the matters covered.
For additional information on matters covered in this presentation, contact your Grant Thornton
LLP adviser.
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CECL Governance
• Explain the role of TCWG in the CECL process
– Specifically focusing on TCWG's role with
regard to:
• Model risk management
• ICFR
• Ongoing monitoring of the
CECL estimation process
Objectives
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CECL Governance
• Introduction
• Model Risk Management
• ICFR
• Ongoing Monitoring
Agenda
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CECL Measurement Principle
Introduction
Amortized
cost Allowance for
credit loss
Net amount
expected to
be collected
over the
contractual
term
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Known losses
confirmed and
charged off
7
Introduction
The CECL model
The
allowance
for future
expected
losses
(reasonable /
supportable)
Unknown losses to the
measurement date –
for which the incurred
loss allowance is needed
Rate of lossChanging over time
Balance sheet date
Unknown future
losses –
included in the
Current Expected
loss allowance
Loan balance –
Assumes run off after
balance sheet date
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CECL implementation processIntroduction
Scoping
• Inventory financial assets at amortized cost
• Identify primary drivers of credit risk
•Determine pools
Measurement Approaches
•For each pool, determine appropriate approach
•Necessary tools / capabilities
Data, Processes & Controls
•For each approach, determine necessary data
•Plan to get that data
• IT implications
Governance
•Steering committee
•Polices & Procedures
• ICFR
• Internal Audit
•Model Risk Management
•Role of TCWG
Engaging External Parties
•Auditors
•Regulators
•Financial Reporting
•SEC
Optimization
•Utilizing ACL information for management purposes
•Refining approach over time
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Steps to estimating CECLIntroduction
Step 1: Group financial assets with similar risk characteristics into pools
Step 2: Determine appropriate method for measuring losses
Step 3: Determine historical loss experience on the pools/asset being evaluated
Step 4: Adjust historical loss experience for current conditions and reasonable and supportable forecasts
Step 5: Revert to historical losses for periods for which reasonable and supportable forecasts cannot be made
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Introduction
• Are models used in the estimation of CECL:
•Conceptually sound?
•Fit for purpose?
•W/in risk tolerances?
•Subject to rigorous validation process?
•How do we know?
•Processes integral to CECL must be well controlled:
•Completeness and accuracy of data
• IT Governance
•Credit risk and other non-finance functional areas
•Financial reporting
•How do we know?
• Is management's CECL estimation process:
•Aligned with GAAP?
•Aligned with capital adequacy evaluation?
•Conceptually sound?
•Well documented?
•How do we know?
•Can TCWG effectively evaluate management?
•Key performance indicators
•Consistency of views on future economic conditions
•Basis for assumptions and projections
•Understand regulatory areas of focus
•How do we know? Ongoing Monitoring
Sound Design of
CECL Process
Model Risk Management
Controlled, Supported
and Disclosed
Role of TCWG in CECL
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Model Risk Management
Agenda topic
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Model Risk ManagementIn the News
12
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Model Risk ManagementEvolutionThe bar has been raised significantly with respect to the scope, formality, rigor and
prominence expected of bank's model risk management programs. A revised and
significantly expanded set of supervisory guidance was co-issued by the Federal
Reserve in April 2011 – FRB SR 11-07 and OCC 2011-2012.
Key aspects of effective model risk management is shown below:
Risk management functions through policies, procedures, allocation of resources and
mechanisms for testing so processes are carried out as specified
Disciplined standards and processes for model development, implementation and use that are
consistent with the situation and goals of the model user and with the banking organization's policy
Verification that models are performing as expected, in line with their design objectives,
business uses and regulatory guidance
Governance,
Policies and
Controls
Model
Development,
Use and
Implementation
Model Validation
13
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Model Risk ManagementImpact of CECL
• Increased reliance on models in estimating CECL– Greater focus on MRM from auditors and regulators
– Model risk increases with model complexity and uncertainty of inputs –
increased estimation uncertainty
– MRM function will be key in supporting estimates
• Hidden judgments– Models give aura of accuracy and precision
– Development requires judgment and incorporates policy decisions
– Results may be subject to qualitative or regulatory adjustments
• Data quality and availability are critical
• Managing changes to credit risk and forecasting models
and methodologies
14
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Model Risk ManagementHow does CECL integrate with DFAST & CCAR?
• Good basis for DFAST and CCAR
• DFAST and CCAR models may not comply with CECL
– DFAST and CCAR testing based on open book of business
(i.e., new loans made and existing payoffs within the stress
testing period)
– CECL is an estimate of specific set of loans at a specific date
• DFAST and CCAR – annualized loss assumptions
• CECL – life of loan assumptions
15
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Model Risk ManagementBCBS GCRAECL
Principle 5: A bank
should have policies
and procedures in
place to appropriately
validate models used
to assess and measure
expected credit losses.
16
Principle 2: A bank should adopt,
document and adhere to sound
methodologies that address
policies, procedures and controls
for assessing and measuring credit
risk on all lending exposures. The
measurement of allowances should
build upon those robust
methodologies and result in the
appropriate and timely recognition
of expected credit losses in
accordance with the applicable
accounting framework.
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Model Risk ManagementChallenges
• Complexity and volume of models subject to MRM
• MRM processes are historically manual and reactive
• Harmonizing loss forecasting model methodologies
across risk, finance and lines of business
• Considering DFAST top-down model methodologies vs
CCAR bottom-up model methodologies
• Volume of required documentation
• Data quantity and quality
17
How do we know?
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ICFR
Agenda topic
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ICFRCompleteness and Accuracy
Credit Risk, Forecasts, CCAR / DFAST, Historical
Loan Loss Data
ICFR: Ensure Completeness and
Accuracy of Data
Models & Processes: Turn Data into Estimates of
Lifetime ECL
ICFR: ITGC - Ensure Data Transfers Accurately,
Models Used as Designed,
Adjustments to Historical Experience Supported
CECL Estimate
ICFR: Financial Reporting –
Including Disclosure – is Clear, Complete and
Accurate
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ICFR
• Data integrity
– Historical loan loss data
– Credit Risk data
• Forecasts
– Used accurately
– Well supported
– Consistent with other processes (CCAR/DFAST)
Completeness and Accuracy of Data
ICFR scrutiny expanded to new areas of organization
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ICFR
• ITGCs: CECL models and system automation
– Data integrity between systems
– Change management
– Security administration
– Program maintenance
• Processes: Judgmental overlays
– Qualitative adjustments supported and documented
Models and Processes
Documenting Adjustments – Directional Consistency
and Quantitative Sufficiency
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ICFR
• Results accurately incorporated into the financial
statements
• Disclosures clearly and completely communicate
uncertainty in CECL estimates
– Main assumptions / inputs
– Qualitative disclosure on forward-looking
Financial Reporting
Consider Enhanced Disclosure Task Force guidance
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Ongoing Monitoring
Agenda topic
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Ongoing MonitoringRole of TCWG in CECL – BCBS GCRAECL
Principle 1: A bank's
board of directors and
senior management are
responsible for
ensuring that the bank
has appropriate credit
risk practices,
including an effective
system of internal
control, to consistently
determine adequate
allowances…
24
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Ongoing Monitoring
• Greater importance of knowledgeable evaluation of
management assumptions / methodologies
– Evaluate consistency of views of risk across organization
• Be cognizant of potential for management bias
– Establish a recurring agenda to evaluate management
assumptions/methodologies on an ongoing basis
• Ensure TCWG have appropriate expertise
• Enabled by appropriate KPI reporting
Overseeing Management
How do we know?
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Ongoing Monitoring
• Establishment of key performance indicators
(KPIs) relating to CECL
– Tool used to challenge model effectiveness
– System to explain performance to others
– Timely reporting of KPIs
• Balancing expectations of auditors/regulators
– Regulatory pressure for allowance levels
– Auditor challenge of what is supportable
• PCAOB
• SEC
Overseeing Management
Consider guidance from BCBS, GPPC, EDTF
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Board Committees
• Consider formation of a dedicated, limited-life
board subcommittee
– Intense focus
– Non-executive membership
– Bridging audit, ERM and other needed committees
• Establish clear reporting lines to the special
committee
• Hold participants accountable
– Dedicated resources
Transition Considerations
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Key Questions
Agenda topic
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The Board and its Committees
• What plans are in place to conclude on:
– Key decisions?
– Build and test necessary models /
infrastructure?
– Execute dry / parallel runs?
Questions to Consider
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The Board and its Committees
• Has the institution identified all short- and longer-
term changes to:
– Existing systems and processes?
– Data requirements and internal controls?
• How will reporting processes and control be
documented and tested?
– Have systems and data sources not previously
subject to audit been considered?
Questions to Consider
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The Board and its Committees
• What are the key accounting interpretations and
judgements and why are they appropriate?
• How will disclosure requirements be met and how
will those disclosures facilitate comparability?
• How will implementation decisions be monitored to
ensure they remain appropriate?
• What mechanisms will give us timely knowledge of
the ongoing status of all the processes and
controls?
Questions to Consider